Seven steps to suitability

Now that we are all well into the swing of 2016, Christmas seems like a distant memory. One thing that many might have missed in the haze of December 2015 partying is the FCA paper TR15/12, concerning the suitability of investment portfolios. Although this paper arose from a thematic review of Wealth Management firms and Private Banks, it undoubtedly contains some valuable lessons and reminders that all adviser firms should consider.

The thematic review followed on the heels of an earlier review of these firms in Autumn 2010, which had identified the following key issues …

  • an inability to demonstrate suitability, for example because of absence of up-to-date customer information, inadequate risk profiling, or failure to record customers’ financial position and/or their investment knowledge and experience;
  • a risk of unsuitability due to inconsistencies between portfolios and the customer’s attitude to risk, investment objectives and/or investment horizon.

Progress?
What did the FCA find from the follow up review with a sample of firms?

  • a third fell substantially short of expected standards;
  • a third need to make some improvements to meet standards.

In particular, of the client files that were reviewed, 23% indicated a high risk of unsuitability and a further 37% were unclear. It is unlikely that any adviser will not understand what ‘unsuitable’ means but it will probably be helpful to define what is meant by the term ‘unclear’.

A file is unclear where there is insufficient information to make an assessment of suitability or the information presented is inconsistent or confusing.

The paper suggested that these results demonstrated an improvement from the previous review on suitability, with the proportion of unsuitable or unclear files falling from ‘79% to 59%’ (sic)! However, it is doubtful that many people would consider this ‘improvement’ worthy of breaking out the champagne, when two thirds of firms, and nearly the same proportion of files reviewed, were found wanting.

On a slightly different aspect, the FCA also found issues around what was actually being delivered to clients …

Firms must deliver the services customers have signed up for, agreeing upfront the exact nature of the service they will provide and how the customer will pay for this – ensuring it is recorded in the client agreement signed at the start of the business relationship.

We suggested at the top of this article that, although TR15/12 related to Wealth Managers and Private Banks, it should make valuable (or compulsory!) reading for all firms. We stick by that. ATEB works with a large number of firms, part of that work being to review client files and we also regularly come across most of the failings that the FCA review found.

Important Note: ATEB news is intended to provide general information ONLY. The content, including any views expressed or guidance provided, does not replace the need to comply fully with FCA Rules and Guidance. Unless you have discussed news article content with ATEB, and specifically how it relates to your circumstances, then ATEB disclaims all liability and responsibility and actions arising from any reliance placed upon it. For the avoidance of doubt therefore, any reliance you place on such information without our consultation is at your own risk.

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ATEB Suitability provides report writing software for the financial services market.

Our View

Get reacquainted!

So, what needs to be done? The rules* around suitability haven’t changed since 2007 and arguably are the same as they have always been. This consistency is welcome but carries the risk that firms don’t occasionally get reacquainted with the rules and re-assess their current practice against what is required. And it would also be useful to re-read FG11-05*, the FSA’s Finalised guidance paper, aimed at all firms and published in March 2011 under the title – ‘Assessing suitability: Establishing the risk a customer is willing and able to take and making a suitable investment selection’. This paper was explicitly referred to in TR15/12. (* see links in action section below).

The key steps in achieving suitability and clarity are as follows.

  1. have all necessary information regarding the client’s
    – knowledge and experience relevant to what is being advised upon;
    – financial situation;
    – investment objectives.
  2. the information required is such that the firm has a reasonable basis to believe …
    – the recommendation meets the client’s objectives;
    – the client is able to financially bear any related investment risk;
    – the client has sufficient knowledge and experience to understand    
      those risks.

And here is a wake up call … in the absence of all necessary information as described, the adviser must not make a recommendation!


Don’t just check suitability – build it in!

Consider this extract from a recent speech by Clive Adamson, FCA Director of Supervision. Talking about the FCA’s current thinking on supervision, following the publication of TR15/12, he said;

‘(It’s about) ensuring firms put the interests of the customer and market integrity at the heart of how they run their business. This will be done by a continuation of individual firm risk assessments focused more on looking at the business models of firms, strategies, culture and front-line processes rather than our traditional approach of focusing on controls.

Essentially, it is a shift from looking at how a firm controls itself to how it runs itself. The reason for this is that we believe these areas are some of the primary drivers of poor behaviours.’

The bold text is worth repeating. Compliance is not just about monitoring advice already given. Much more important is how firms actually run their business – so don’t just check the quality of advice after the event … build it in to the firm’s processes and culture up front.

Action Required By You

Seven steps to suitability

Remind yourself of the rules around suitability, and re-read FG11-05.

Finally, most of the failings mentioned inTR15/12, and which we see in our work with firms, would disappear if advisers took note of the following seven points.

  • A fact find is a discussion not a questionnaire! The document is merely there to record the outcome of the discussion in a structured manner. And you can never have enough soft facts!
  • Assessing attitude to risk is a discussion not a questionnaire! Whichever risk tool a firm uses should be understood by all advisers and should not be treated as infallible. The outcome of the risk process should be sense checked for consistency with, and if necessary modified by, other information, especially around the client’s level of experience and knowledge of investments and risk.
  • Attitude to risk is a subjective concept, capacity for loss is a financial matter of fact. (Click here to read more about capacity for loss.)
  • If it’s not written down, it doesn’t exist! Document the fact finding conversations thoroughly in the fact find document and file notes.
  • Structure suitability letters logically, make them client specific and, if using a template report, ensure missing relevant content is added and any irrelevant ‘standard’ content is deleted.
  • Product features are not client objectives. We see a lot of inappropriate ‘objectives’, especially around transfer advice following the pension freedoms. That an adviser might mention that it is now possible to vary income, draw cash but not take income and pass on funds unused at death might be appealing to the client but they are not the same thing as the client’s objectives.
  • Ensure that the advice meets the client objectives and is truly a personal recommendation. Is the recommended portfolio consistent with the identified risk profile? How do you know? Think about all your suitability letters over, say, the past six months. How similar are they? Are the objectives uncannily similar? Are the solutions always the usual suspects? Is the advice in danger of being formulaic?

ATEB clients should speak with their account manager as necessary; otherwise contact ATEB here to find out how we can help.

About the Author

Steve is an ATEB Director and has a deep understanding of all matter regulatory, built up over his 30 years + in the industry. With a training background and a technical brain, he overseas numerous complex projects and client implementation work.

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