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Report to reveal concerns over risk profilers’ asset allocation

Former FCA specialist’s report to show “significant and material differences in asset allocation” for the same client

Risk-reward-attitude-profitA major new report due to be published next week will highlight significant concerns about six of the largest risk profiling tools used by advisers.

The report compiled by former regulator Rory Percival is the first major review of risk profiling tools since 2011.

At the time, then-regulator the FSA found serious failings with nine out of the 11 tools it assessed.

Percival – now an independent consultant – says a review of these risk profiling tools was overdue, particularly with the forthcoming introduction of the EU’s Mifid II rules.

While the report finds that that risk-profiling technology has improved and evolved significantly since 2011, it highlights concerns about how these tools can each come to very different portfolio recommendations for the same client.

Percival says: “We are talking about significant and material differences in asset allocation. This isn’t about marginal differences in percentages, it’s about ending up with a different investment portfolio.”

FCA: We still have concerns about risk profiling

The six risk profiling tools assessed are A2Risk, EValue, Dynamic Planner, FinaMetrica, Morningstar and Oxford Risk. These companies also provide risk profiling service through other third-party brands, for example Iress and Defaqto.

The report does not score, or rate the individual risk-profiling companies, however.

Percival says: “For each provider there is a section highlighting the particular limitations of the tool, and suggesting ways that advisers can mitigate these limitations in the advice process.”

The report will highlight specific cases where the tools differ in their recommendations.

Percival adds: “Advisers shouldn’t solely rely on the outcome of the tools, and assume the job done.

“Under MifidII, advisers must review these assessments and ensure they are fit for purpose. Part of our aim in producing this report is to help advisers determine whether an assessment or recommended portfolio is fit for purpose. It should also enable advisers to identify and mitigate potential risks when using these tools.”

Percival said that there were limitations in any risk-profiling tool, but the report did not find any one provider was significantly better than another.



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There are 9 comments at the moment, we would love to hear your opinion too.

  1. There will always be different outcomes until the Regulator either introduces a risk modeling tool or a set of regulated questions that must be ask and what the rating should be from their answers.
    Risk is subjective and to quantify any individuals risk and document it is at this time a complete nightmare. We are continually being told the tools are not good enough, but little or no action from the regulator to provide an answer to what is.
    Investing is risky full stop, if a client cannot face this inevitable fact, that investments will fall as well as rise, the outcome is not known, the risk can change in a second they should not invest.

    • Nicholas Pleasure 6th September 2017 at 4:25 pm

      Spot on. These tools can only give an indication of risk. We then discuss this with the client and agree what they want. Most don’t really know so will just say ‘medium’. It is the advisers job to guide them and find something with which they are comfortable.

      Each adviser has an opinion of what a portfolio that meets a certain level of risk should be. You will always get inconsistencies because we are people dealing with people, not machines.

  2. May be Rory using the word “inconsistencies” is referring to trying to fit square pegs into round holes

    He also be kind enough to give us a clue of where how and why the inconsistencies arise

    Been saying it for a long time that nothing wrong with the risk profile system It how the analysis is implemented by DFM/ Product providers and Advisers

    That is where the problem occurs .

  3. more cobblers from the FCA

  4. It will be interesting to see some of the detail and specific criticisms of the named tools. I suspect it will be along the lines of how they are used rather than the tool itself.

    Assessing a client’s risk appetite and then matching it to an asset allocation are two fundamentally different things. Done properly, the former can be reasonably well quantified using scientific methods leaving little room for criticism. The latter inevitably involves some form of judgement and so this is where discrepancies are likely to arise. Presumably there is an acceptable range which the regulators (and consultants) prefer not to quantify or it doesn’t leave room for fines and work later down the line.

    Is it worth highlighting the obvious conflict involved when a consultant produces these reports? Probably not…

  5. As an aside, Mr P states:

    “Advisers shouldn’t solely rely on the outcome of the tools, and assume the job done.”

    Seems sensible and in practice advisers will assess and judge whether this fits with everything else they are hearing from the client. Good stuff. But hang on, what about robo-advice? This does rely solely on tools. What’s good for the robo-goose must surely be good for the adviser gander. Dual standards anyone?

  6. The problem is not just that there are inconsistencies with each risk profiling tool, but more relevantly that there is no way at all, ever, ever,ever of matching the range of investment assets chosen to the level of risk tolerance revealed by the various profiling tools. The future is not known,so the matching of assets to the level of the client’s risk rating is only ever at best an educated guess and an indication of the “right” asset mix. I have used variants of Oxford Risk Profiling tools and also Dynamic Planner, but none of them can reveal the true risk tolerance of a client, and even if they could, the asset mix will NEVER be matched to that tolerance for more than a coincidental moment. The benefit of using the risk profiling tools is to improve the quality of the conversation between adviser and client about what risk can mean. It can help the client to understand the historical returns typically achieved by different asset classes. But history is no guide to the future. A few years ago Gilt funds generated positive returns of nigh on 20% in a year, and no fund manager or portfolio manager would have predicted that. Capital Portfolio Model theory was destroyed utterly by the crash of the late 2000s. Risk is not something which can be matched by assets. And even if the assets could be matched to the client’s risk profile, it is a fact that clients will often change their risk tolerance when seismic events occur, either with markets as a whole, or with things in their own personal lives. There is an understandable emphasis by the FCA on trying to make sure clients are not recommended to invest in things which are likely to lead to returns with which they are uncomfortable, but I am not sure Risk Profiling Tools are the answer. They are just a tool. And as with most tools, it is the quality of the work(wo)man using those tools that has the greatest bearing on the quality of job done.

    • Brian is, I feel, entirely correct here.

      The profound distortion effect of QE and artificially held down interest rates on asset prices since 2008-9 is such that correlation has been almost at par across general asset classes, with just some minor (temporary?) changes to this recently. Add to that geo-political events such as North Korea, Donald Trump, Terrorism, Brexit, The Middle East, Natural Disasters caused by global warming, massively inflated and totally unrealistic house prices alongside rising price inflation and static incomes in the UK, then how the hell can you expect any sort of risk profiling tool to come up with anything meaningful? And that’s before we’ve even factored in huge volumes in global trading carried out in milliseconds thousands of times a day by the market makers adding their manipulations to the mix.

      It is only the knowledgeable adviser on the ground getting to know their clients well and acting accordingly that can bring any kind of reasonably meaningful analysis to matters for the individual. And even then, it could still prove nigh on impossible to achieve a rationalisation that can hold true for very long once the real world as it currently stands is brought into the picture.

      Risk profiling tools vary so much in their outcomes that it really is quite laughable and, as is now proving the case, potentially dangerous for both clients and advisers alike.

      By way of example, look at what Dynamic Planner throws out as compared to what Towers Watson (as used by Old Mutual) does. The out-puts are unrecognisable from each other, with the former arguably being far more aggressive than appears sensible based on prevailing market conditions, as they tend not to operate a tactical overlay, whilst the latter (over recent times) has been much more cautious by comparison, as it does operate a tactical overlay. And yet both these systems have 10 risk gradation levels available as their outputs.

      So, who is right? Guess what, it’s largely just matter of opinion, and that’s all. The whole thing therefore becomes a complete nonsense, in that there are virtually no hard and fast rails to run on, so to speak. This brings us back to where I started, i.e. good adviser knowledge and common sense being specifically applied to an individual’s situation being arguably as good as it is likely to get.

      The FCA has certainly has a point about how risk is explained including potential for loss etc., however, given all the above factors, it’s hard to see how anything even remotely cast iron could be achieved with any kind of real world reliability. The FCA wants to make things as risk free as possible in relative terms for a given clients requirements, but with all of these constantly shifting sands, many of which are not market led, this is, I would contend, something of a pipe dream at best.

      Chaos theory, anyone?

  7. The FCA remind me of myself when discussing the performance of the England football team manager.

    I can easily carp on (and do – frequently) about how ineffective he is but am wholly unable to formulate a solution myself

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