Managing Risk

Ben Raven - Head of Business Development

Many of us think about risk management in terms of our clients’ portfolios…

However, do we ever stop and think about how it applies equally to the quality of the recommendations we make?

Whenever an adviser makes a recommendation that does not factor in realistic aspects of risk management within a client’s portfolio, they are at risk of giving poor advice. If advisers are deemed to be giving poor advice relating to an investment portfolio, their business faces a serious risk of upheld complaints and potential regulatory sanction.


In a recent FOS ruling, it was deemed that even though the risk associated with a set of funds was mentioned, FOS “did not think it was enough to give the customer an overall view of the risks associated with investing in the funds”. Identifying an appropriate investment solution for a client is an extensive process that should factor in a number of elements at the outset and on an ongoing basis. This process goes far beyond impressive past performance and a seemingly low cost. Whilst both are clearly important factors in the recommendation process, undue emphasis on either can be dangerous for an adviser and their business.

The topic of fund charges is gaining momentum as the quest for a transparent pricing structure continues. Advisers often recommend investment portfolios to their clients based on ‘low’ charges as the client may have stated this was important to them. However, the industry standard Ongoing Charges Figure (OCF), designed to give an accurate indication of the costs incurred by a fund over a 12-month period, happens to exclude a significant element of a fund’s total charges – the cost of placing trades. Active funds are not able to outperform any peer nor any benchmark without placing trades. A fund’s success will be dictated by how many successful trades it places over a year, and yet the potentially significant cost involved in doing so is excluded from both the OCF, and in turn, the client’s expectations of how much they are paying.

Past performance is equally capable of exposing an adviser to unexpected complications. Clients have, by and large, experienced good portfolio returns over the past decade as their portfolios have shifted from a UK centric focus to a globally diversified approach. Are we aware of exactly where these good returns have been generated? Are we certain they have come from the specific asset classes we have been discussing with our clients? Can we demonstrate they have been exposed to the appropriate level of risk at all times? What would our clients think if they discovered their returns had been in part derived from asset classes they did not know they were even exposed to? Or that in order to make those good returns they had actually been exposed to a type of risk they did not sign up for?

Let’s consider the interests of each party. We have a client who wants to achieve their financial objectives whilst taking an agreed level of risk. We have a fund manager whose mandate is to generate positive portfolio returns. We have an adviser who is tasked, amongst other things, with finding an appropriate investment for the client. The adviser sits in between the client and the fund manager. They are tasked with ensuring the risk on offer in a fund matches the level of risk their client should be taking. Now let’s consider the scenario where a client discovers they have actually been paying 2% a year more in charges than they were led to believe, or that currency markets have been impacting their returns when they thought they were only invested in equities and bonds. Should the client complain, FOS will not contact the fund manager; they will be coming directly to the adviser for a response.

The landscape of our industry is shifting and there is a real and present danger to IFAs who may be recommending inappropriate investment solutions to their clients.

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