The perils of unregulated collective investment schemes have been in the spotlight in recent months. Since January, the FSA has banned four IFAs and has issued a total of £115,500 in fines to companies for failing to comply with Ucis promotion rules.
The most recent case resulted in the winding up of IFA firm Best Advice following its two directors being fined a total of £30,500 and both being banned for the inappropriate promotion of Ucis investments.
This enforcement action is a result of the FSA’s 2010 thematic review into Ucis and has highlighted the risks to IFAs of promoting such schemes.
Following the conclusion of the most recent enforcement action, FSA head of retail enforcement Tom Spender spelled out the regulator’s attitude: “Ucis are rarely suitable for retail investors. Many are characterised by a high degree of volatility, illiquidity or both – and are therefore usually regarded as speculative investments. Even when they are recommended, they are unsuitable for anything more than a small share of a portfolio.
“We have seen a proliferation of firms offering Ucis so it is absolutely vital they do their homework before recommending these schemes to investors.”
Despite the regulator’s warnings, there are attractions for Ucis investments. The current economic climate continues to offer savers and fixed-interest investors little in the way of returns, which means investors are looking for higher-yielding alternatives.
Future Capital Partners sales and marketing director Piers Denne says: “There is no doubting that when ’secure’ investments are offering low returns, investors seek alternatives and Ucis can add the potential for significant returns.”
Bestinvest senior investment adviser Adrian Lowcock agrees and says: “With so much uncertainty in stockmarkets and interest rates close to 0 per cent, there will naturally be more interest in products with attractive returns.”
High returns are not the only advantage of investing in Ucis. Threesixty director Russell Facer says they offer attractive portfolio diversification options.
He says: “Ucis offer access to asset classes not generally available through more established collectives. There is also an attraction for advisers in being able to offer more solutions to clients.”
However, the general industry consensus seems to be that the risks associated with Ucis outweigh these advantages, something highlighted in the FSA’s statement that the schemes are “rarely suitable” for retail investors.
Lowcock echoes this sentiment and says a combination of factors make this an area where advisers should tread cautiously: “While ’unregulated’ does not in itself mean higher risk, retail investors have no protection. There will be no recourse if the investment fails.”
Facer believes the biggest risk is lack of adviser knowledge about the specific risks attached to specific schemes, with the highly specific eligibility criteria comprising a large part of this risk.
Although advisers can either use rules set out by the FSA or rules set out by the Treasury to justify promoting Ucis, meaning that they effectively have recourse to two routes to finding their client suitable, the criteria are strict.
Facer says lack of adviser clarity over which clients are suitable for Ucis contributed to the regulator’s clampdown.
He says: “Recent FSA comments highlight that IFAs often fail to demonstrate suitability even when the client has substantial wealth.”
While the FSA cannot directly regulate Ucis, it can take action against businesses that promote them, as in the case of Best Advice.
Denne says the FSA’s attention could benefit the market. “If a clampdown means the FSA looks more closely at the advice given and this produces a more streamlined and effective market then everyone will benefit.”
Lowcock says more stringent governance will reduce misselling but the tougher approach will eliminate the option of using both FSA and Treasury rules when justifying client eligibility.
When combined with the hefty admin burden involved in selling Ucis, such as defining a financial promotion, keeping CPD records up to date and extra professional insurance costs, some advisers may be disinclined to recommend Ucis.
Lowcock says: “The compliance requirements are much greater for advisers using Ucis funds. Investors are also becoming more costconscious, so higher PI fees may put some of them off.”
Facer believes the stringent requirements will separate firms that are adequately prepared for the promotion of Ucis from those that are not. “Promoting Ucis without adequate systems is commercial foolhardiness. If doing this is too much for a firm, then it should not even consider Ucis.”
The RDR and the need for advisers to demonstrate a whole of market approach to investment raises the question of what this will mean for demand for Ucis investments.
Denne believes we will see more IFA interest in Ucis as the RDR approaches.
He says: “The RDR has already made the community more aware of the existence of Ucis. We firmly believe that 2012 will see more investors being given the opportunity to invest in Ucis products.”
The ability to offer Ucis schemes could be a useful way for IFAs to stand out from the crowd once the RDR comes into play.
Facer says: “The ability to demonstrate sound knowledge of the alternative investment market could be a key differentiator after the RDR. However, whether this leads to an increase in Ucis will be a function of the suitability of the investment.”
But Lowcock remains sceptical and says IFAs will not be embracing Ucis any time soon. “Being able to offer whole of market and recommending a product are different things. I do not think the Ucis market will be significantly boosted.”