Stephen Hagues: The Mifid II independence minefield

Many aspects of Mifid II are set to affect advisers but the big talking point is the definition of independence. In its latest discussion paper, released in March, the FCA stated: “Mifid II requires firms offering independent advice to assess a ‘sufficient range of different product providers’ products’ prior to making a personal recommendation.”

The regulator added: “The European Securities and Markets Authority’s technical advice suggests independent advisers should consider a range of financial instruments proportionate to the scope of advice and adequately representative of the products available on the market”.

Herein lies an insurmountable task. I agree with the Wealth Management Association’s view that it is simply not practicable for firms to consider all types of products that may be suitable for their clients’ needs. Further, it is misleading to give consumers the impression they can. Adviser firms of different sizes are ‘independent’ and the practicality of all these firms being able to research the wide range of products available is limited.

This is especially challenging in the context of the wider scope of what is considered a retail investment product under Mifid II. The definition of this European independent standard for advice includes shares, bonds and derivatives – products that currently sit outside the FCA’s definition.

The FCA recognises the difficulty of this and states that advisers would need to clearly disclose the scope of the service provided to a client and ensure the client fully understood the extent of the independent advice being offered. Thus, a “sufficient range” should be analysed and communicated to the client. However, considering just a “sufficient range” could be detrimental to the client, with advisers encouraged to dip a toe in most product areas.

Another way the FCA considers tackling this is for advisers to conduct a “comprehensive and fair assessment” of the “relevant market”, which would need to be “carefully considered, potentially defining this as any share, bond or derivative that would meet the client’s needs”.

Regardless of whether every product is analysed, advisers would have to cast their net wide enough to comprehend what would meet clients’ needs, making a foray into uncharted waters, perhaps without the necessary tools to do so. I believe this part of Mifid II may lead some independent advisers to go restricted in order to avoid onerous rules that they are not equipped for.

Perhaps more importantly, if advisers need to start considering shares to be independent, the risks to the end client are clear. Risk in model portfolios is usually defined by asset type, with clients with larger portfolios given exposure to direct equities in higher risk portfolios.

For shares to be considered under Mifid II, this is completely out of kilter with the way the industry runs client money, as well as what clients expect of independent financial advice.

Clients are not equipped to choose the products that are applicable to them. The FCA states that implementation of Mifid II could lead firms into stating they are providing independent advice on shares, bonds and derivatives, which may lead to client confusion and require them to select – at least initially – the type of product they believe is suitable for them. This definitely would not deliver the best consumer outcome.

The breadth of products to be considered under Mifid II raises an issue for those adviser firms that have carved out a particular niche or specialism, such as ethical products, and provide a superior service to clients in that area. Under current rules, the FCA states firms holding themselves out as providing independent financial advice generally will require a comprehensive and fair assessment of all types of RIPs in that “relevant market”.

It seems to me that advisers should be able to specialise and still be classed as independent. If this does not turn out to be the case, those businesses developed through their niche would be better off restricted, rather than diluting their expertise. The Mifid II proposals may lead advisers to centre their expertise around a particular service, such as inheritance tax planning, rather than a particular product area.

The industry has spent the post-RDR period getting consumers to understand what “independent” means and what to expect. The FCA makes a valid statement in warning that any material change in expectations risks creating more consumer and industry confusion.

Stephen Hagues is founder of Retiring IFA