Being asked to predict changes in the IFA market is a tricky business – I think I would rather have a stab at the end-2006 level of the Nasdaq.
The IFA sector has endured a particularly torrid time over the last few years and, while some of the pressures may have been unfair or have seemed heavy-handed, it is undeniable that some changes have arisen as a direct result of the shortcomings of some practitioners. So how will the sector evolve over the next three years?
Whatever model is to evolve it is certain to do so in an environment featuring significantly narrower margins than have traditionally prevailed. The short-term Government/regulatory focus seems to lie squarely on providing an artificial and very imperfect solution to the dismal levels of consumer understanding in the UK.
By introducing price controls, the consumer is certainly protected against some of the extortionate scams of the past. However, avoiding one pitfall does not mean access to professional, affordable and crucially relevant financial advice is guaranteed.
Price controls will lead to greater scrutiny of how margins are split between manufacturer, packager and distributor. If one considers the current value chain for the bulk of retail investment business, it involves an asset manager, a life office and a financial adviser. Each of these parties must begin to seriously appraise their worth in the chain for as soon as price controls become de rigueur these three parties are in conflict, at least where the financial adviser is an IFA.
My contention is that the greatest share by far should lie with the adviser. After all, the true cost of active fund management is typically less than 0.2 per cent while the cost of a passive service is sub 0.1 per cent.
The balance is then to be split between an adviser who in most cases effectively controls the customer and a product provider which is typically no more than a non-risk-taking, licensed administrator – a low added-value proposition.
My instinct says that client relationship is all in this sector. Are there currently any investment or product provider brands that actually attract and persuade a client to invest?
My feeling is no, but even if that is at the pessimistic end, even the most optimistic would surely argue there are only a few.
In principle, therefore, this leaves IFAs in a very strong bargaining position. The problem lies in the historic cosiness of the relationship between providers and IFAs, and the low levels of capital available in the IFA market.
My feeling is that it will not be possible to achieve a sustainable solution to the capital issue until the sector cuts the umbilical cord from the previously cash-rich providers.
Whatever else this means, it implies that if the sector is to survive and prosper, it must move away from a product-led mentality toward a long-term service proposition.
Remaining in the product space will lead to further discreditation and a loss of margin to lower-cost (in future) operators such as banks and supermarkets.
I passionately believe that the financial services success stories of the next 10 or 20 years will be the parts of the IFA sector that get it right by providing quality long-term financial advice to those who can afford to pay for it. Those unable to make the transition will sink in the mire created by the industry's historic (and in many cases prevailing) short-term mentality. That they will sink with and after some heavyweight life office names should provide no comfort at all.
Oh, and the Nasdaq will end 2006 at 2,400. But don't bet on it.
David Ferguson is a director of the abacus