Many robo-advisers are breaching existing regulatory rules and are financially unviable, according to a damning report into this fledgling market.
The report by SCM Direct said those robo-advisers risked being a “poisoned chalice” rather than a “silver bullet” to plug the widening advice gap. It is urging the FCA to investigate further and put a brake on this burgeoning market.
The report says: “Rather than creating a level playing field for the advice and investment industry, [robo-advisers are] creating a Wild West, where the admirable over-arching principles of the FCA of ‘clear, fair and not misleading’ are being completely disregarded.”
The report said firms appear to be straying into advice without possessing the requisite regulatory permissions. It claims 80 per cent of the 10 largest robo-advisers used risk-based questionnaires to recommend investment portfolios – but 25 per cent of these firms (two out of the eight) were not actually regulated to give advice to clients.
SCM Direct said it found evidence of misleading performance calculations, questionable statements regarding fees and missing pages from key legal documents.
SCM Direct director Gina Miller says: “The FCA are allocating £500,000 into their new robo-advice unit. Our problem is not with the medium of using technology to deliver advice or lower costs – but with the fact that these firms don’t seem to abide by the same rules. We would support innovation, but not at the cost of throwing out existing regulation.”
The report also questions the financial viability of many of these start-up firms, suggesting most were “wired” to lose money. It says: “Most will go bust before acquiring the sizeable assets under management to ensure their sustainability.”
It said that average UK robo-adviser receives around £147.50 a year per account, but the cost acquisition is at least £180 a year per account – plus considerable additional annual business costs.
Even if firms achieve economies of scale the report estimates that it would take 11 years to break even.
The report draws on evidence from the US, where robo-advisers – such as Betterment and Wealthfront – are more established in the investment advice market. However, while Betterment now manages over $4.8 billion of assets it does not yet appear to be making a profit, SCM says.
The report stops short of naming the robo-advisers that had breached rules – but the 10 largest robo-advisers are likely to include Nutmeg, Wealthify, Rplan, Wealth Wizard and Parmenion.
Finance & Technology Research Centre director Ian McKenna says he does not agree that many of these firms are financially unviable. He points out many first-generation robo-advisers have been acquired by larger organisations, for example, Aberdeen Asset Management’s purchase of Parmenion earlier this year.
He adds: “Clearly the FCA needs to keep an eye on the business models of these companies, but that is its regulatory duty.
“We’ve yet to see the real cost savings that have occurred in the US market, but I’d expect some of these US firms are now looking at the UK market.”
Aurora Financial Solutions director Daren O’Brien says he would like the FCA to work pro-actively with companies offering robo-advice.
He says: “Clearly, this is the future for mass market information, but it remains distinct from the more specialist advice offered to high- net-worth clients and businesses.”
He adds: “At the moment there doesn’t seem any one product that answers all the questions people have, but this technology has a major role to play in future. This should be a good thing.”
Robo advisers may be giving advice without knowing it
It would be optimistic to assume robo advice will escape any misselling style scandals that have repeatedly plagued traditionally delivered financial advice. However, if care is taken to test the robo-advice process thoroughly it should be more consistent and reliable than advice delivered by human advisers, where the quality can be variable.
One area of concern with many of the current robo-advice propositions in the UK is that they do not give FCA regulated advice but rather offer guidance to consumers. Given the grey area between guidance and advice, it is possible some robo-advisers may be inadvertently giving advice to consumers – who may at some point in the future lodge complaints with the Financial Ombudsman Service.
Our view is that it is safer to give advice, rather than to try to offer consumers as much support as possible without stepping over the line from guidance. We have the paradoxical position that being too helpful with the guidance could land adviser firms using robo-advice in hot water.
Bruce Moss is strategy director at eValue