How do you measure a client’s attitude to risk? Adviser technology companies have been coming up with increasingly sophisticated solutions to this problem at breakneck pace over the last few years as both computing and psychological knowledge has evolved. The answer to the question hasn’t changed though: it’s complicated.
Because each client is an individual, and responses to any questions, no matter how artfully phrased, will be subjective, there’s no right or wrong answer here.
But, arguably, there is a right and wrong asset allocation for an extremely cautious client. Or an extremely aggressive one.
That’s where a report released this week by former regulator Rory Percival comes in.
Frankly, it’s amazing no one took the opportunity earlier – commercially or just off their own backs – to look under the bonnet of risk-profilers, how they decide on ratings, and where the client ends up invested on the back of them.
The last time a major review of risk-profiling was carried out, it was then regulator the Financial Services Authority wading in in early 2011 to say that, of the 11 risk-profiling tools assessed, it identified nine with weaknesses which could lead to “flawed outputs”.
Of the 366 investment files the FSA said were unsuitable, over half were branded so because the investment selection failed to meet the customer’s risk profile.
Six years later, and Percival’s finding that risk-profiling tools are producing “significant and material differences in asset allocation” for the same client appears to echo the regulator’s own thoughts loud and clear. Percival insists he wasn’t looking to judge any particular tool, but also expresses an undercurrent of concern in his report about exactly how clear some descriptions of risk levels are for clients.
That said, risk-profiling companies remain some of the most respected names among advisers. From my conversations with IFAs, Dynamic Planner in particular seems to enjoy a strong reputation.
Coincidentally, they were one of the best performers in this study. But risk-profilers need to work hard to maintain the trust of the adviser community in light of Percival’s results.
Perhaps some tool loyalty stems from an opinion that there is safety in numbers. If I’m using this tool, and so are thousands of other IFAs, we can’t all be wrong.
But for advisers, blindly trusting an asset allocation after running through some risk questions looks a touch foolhardly in light of the FCA’s current suitability work.
Fortunately, very few advisers do that, and have been keen to react to the report defending strategies that take a risk profile into account simply as one part of a wider client discussion.
No one should expect risk-profilers to be perfect. But there is certainly a lot to learn for the firms that went under the microscope and the advisers that use them.