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Who benefits from risk-rating partnerships?

The past few years have seen a rapid rise in the number of fund managers linking with risk profilers to launch new ranges.

Determining risk is a central part of the advice process. But risk-profiling tools have been subject to criticism over the wildly different asset allocations they produce and their lack of consistency when matching a risk profile to an investment portfolio.

Also of significant concern is that if funds are assigned a risk-rating and are not managed to this target they could drift outside of the volatility range over time, leaving investors exposed to greater risk.

Recently, there has been a trend towards asset managers partnering with risk profilers to offer risk-targeted funds, such as Schroders and 7IM’s deals with Dynamic Planner. But does this mean greater certainty for advisers?

A risk-rated fund is one that has been assessed by an independent risk-profiling firm to determine how risky it is, based largely on current asset allocation and past behaviour. Risk-rated funds are normally assigned a number from one to 10, which represents the level of volatility of the investment, but metrics vary. As managers are not required to maintain a fund at a certain risk level, this can move up or down over time. By contrast, risk-targeted funds are managed to maintain their risk level.

Last year, Schroders partnered with Distribution Technology’s Dynamic Planner to launch five risk-targeted funds. 7IM also unveiled three passive risk-profiled Ucits funds that sit within the Dynamic Planner Risk Targeted Managed range. The funds are run specifically to Dynamic Planner’s asset allocation.

How to demonstrate due diligence on risk rated funds

The Schroders Dynamic Planner Portfolios target risk profiles from level 3 to level 7, and have been specifically designed to remain within the volatility parameters of each level.

Schroders UK intermediary co-head James Rainbow says partnering with Dynamic Planner has helped remove unpredictability seen with risk rating.

Rainbow says: “A product can be rated at five and then a month later at four or six, so it removes the unpredictability of risk rating. This is pretty appealing from an adviser’s perspective and this is probably the reason the segment has grown significantly and will continue to do so.”

Rainbow says the deal with Dynamic Planner is far deeper than when funds themselves are just risk rated, which helps ensure the risk rating stays at the same level.

He says: “The relationship means we speak more regularly with Dynamic Planner and have a continuous discussion regarding decisions about where we are going to take the funds.

“There is richness to the proposition that doesn’t exist if you are a standard risk targeted manager, which predominantly is about portfolio reporting. It is a much more ongoing relationship rather than a periodic check in.”

Dynamic Planner is one of the biggest risk profilers in the market, with 120 asset managers, of which 14 are signed up to its risk-targeted managed service. Its chief executive Ben Goss says: “Our relationship with Schroders and 7IM is slightly different to other risk-targeted funds as we sit on the investment committee, which gives them a closer understanding of our asset and risk model. It is their responsibility to run the funds and we just act as a consultant.”

Goss adds: “If you use one profiling methodology to assess the investor and a different one to assess the investment then you are comparing apples and pears, which is clearly not a good thing and can lead to significant error, particularly post-Mifid.”

Under the bonnet of fund research agencies: Dynamic Planner

He adds: “Having investments change risk profile is costly as you have to write to the customer and let them know as part of their review and it is also quite risky. This sector post Mifid is growing like a steam train as firms want investments that are going to stay suitable.”

However, AJ Bell Investments passive portfolios head Matt Brennan warns using one risk profiler could alienate advisers and result in simplistic asset allocations.

Brennan says: “AJ Bell uses the Dynamic Planner risk-targeted approach as well as risk ratings from other providers. If you go through a partnership and use just one of the profilers you are closing off a lot of the adviser market.”

He adds: “Anyone who has gone down the partnership model of following the asset allocation exactly is going to be tied into Dynamic Planner assumptions. Dynamic Planner is not an actuary and doesn’t have the model capabilities of some of the bigger institutional asset allocation engines. If you follow it exactly you might not end up with the optimum portfolio.”

Goldsmith Financial Solutions financial adviser Hannah Goldsmith says clients deserve a better deal than the one they are currently getting from the industry.

Goldsmith says: “Advisers should be taking their clients direct to the market in the most cost-efficient manner. These bolt-on services are just an additional unnecessary cost with no benefit to the client.”

She adds: “Telling a client they are risk rated three and therefore ‘suitable for our XYZ fund’ means nothing. Clients need guidance on risk and capacity for loss and these tools are, in my opinion, incompatible for that process. They are simply a way for advisers from two financial parties to make a financial transaction in their favour.”



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