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Tony Wickenden: Quantifying adviser alpha

Tony WickendenProving the value of an adviser/client relationship with numbers alone can be difficult

My usual tax planning column is not the place to discuss the costs and charges disclosure implications of Mifid II. One, it is not tax; two, I don’t have the necessary experience or expertise to do any such piece justice.  There are plenty better equipped than me to do that.

But a column on tax planning is the place to consider the value financial advice can deliver, because there is no denying that ensuring tax efficiency is an essential contributor to advice alpha.

In making any spending decision, a buyer will run a value-for-money test. This is true even in relation to the purchase of something intangible like advice. Proving the value of an adviser/client relationship with numbers can be difficult, given the benefit will be mostly evident in the extent to which the client’s financial position is better with advice than it would have been without it.

A client looking back to assess the benefit an adviser has delivered will know the difference between where they were financially at the beginning and where they are now, but they will not know where they would have been without advice, as that did not happen. It is possible to demonstrate the tax saving that has resulted from the advice given in relation to pension and Isa contributions, and investments in the likes of enterprise investment schemes and venture capital trusts but, after that, it gets a little more complex.

And, anyway, tax saving – while, of course, important – is not the be all and end all of financial planning. So how do you quantify it?

Well, instead of looking at one particular individual, you can look at a wider group of people – who both have and have not received advice – and compare outcomes over a long enough period. This is what a few organisations, including Vanguard, Morningstar and Royal London have already undertaken.

All their research has identified how good decision-making can enhance sustainable lifetime income on a risk-adjusted basis.

In an investment context, the term “alpha” constitutes how a fund manager combines securities into a portfolio that provides returns to investors above the appropriate related benchmark index for those investments. In simple terms, achieving alpha means earning more money than expected.

If a fund manager charges a fee of 1 per cent of assets under management, but then produces alpha of 2 per cent, the investor enjoys an overall net gain of 1 per cent. After fees, they have earned 1 per cent more than they would have done had they invested directly in the benchmark index.

In Vanguard’s research, it is estimated adviser alpha delivers around 3 per cent on a net basis (4 per cent less an assumed 1 per cent fee).

The suggested 3 per cent alpha comes from several categories that focus on tax efficiency, risk management and making good investment decisions (see table, below).

An investor wishing to go it alone but who does not know how to effectively implement the strategies outlined in the research, or instead wants to devote their energy elsewhere, misses this extra adviser alpha. Even though they save the 1 per cent advice fee, they will most likely end up worse off.

So we should all be seriously reassured that the additional benefit delivered through advice which enables awareness of choices and then helps in making the right ones is meaningful.

Tony Wickenden is joint managing director of Technical Connection (a St James’s Place Wealth Management group company). You can find him Tweeting @tecconn

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