Pressure grows on FCA over advice due diligence scrutiny

The FCA is facing pressure to ramp up its efforts to investigate advisers’ due diligence processes after almost two years of work culminated in a report just six pages long.

The regulator published the findings of a long-awaited thematic review last week which revealed concerns advisers may be failing to adequately perform checks on the platforms and products they recommend to clients.

The FCA first revealed plans to probe the work undertaken by advisers in its 2014/15 business plan, published in April 2014, when it laid out a review of “effective due diligence for retail investment advice”.

However, the culmination of the FCA’s work has left many in the industry disappointed, with experts calling for an overhaul of charging models to boost platform switching.

A small piece of work

The FCA paper came after in-depth probes of 13 advice firms, backed up by interviews with seven external research and due diligence consultancies, and three further product and service  providers.

While the FCA found generally firms demonstrated good practice, it also found concerns with four businesses.

Of those, one was asked to complete a past business review as a result, while three others were ordered to make improvements in their research processes.

Examples of bad practice included “retro-fitting” of due diligence documents to justify decisions on platform selection, while the FCA also warned file reviews “should include a genuine assessment of the recommendation, rather than simply checking the presence of research and due diligence”.

Nonetheless, independent regulatory consultant Richard Hobbs says: “Everything just suggests this was a small piece of work and there wasn’t a huge amount of energy spent on it.

“Due diligence should be a fairly well tilled field but the problem with a thematic review where only 13 firms are investigated is that you can’t draw any conclusions from it.

“One firm out of 13 displayed egregious behaviour, but you don’t know whether you simply got lucky, and found the only firm breaking the rules, or whether there is a much worse problem out there.

“Without a bigger sample with some real statistical validity, it’s difficult to know what you can draw from it.”

“Due diligence should be a fairly well tilled field but the problem with a thematic review where only 13 firms are investigated is that you can’t draw any conclusions from it.”

Sense Network compliance director John Netting also admits his surprise at the brevity of the FCA’s findings.

He says: “Although we weren’t one of the firms approached, this paper is something we have been waiting for, so I would have liked to see a bit more detail in there.

“The FCA has done some really good papers in the past on assessing suitability. Those have been really useful and added a lot of clarity for us, but this one just isn’t as useful, even if the overall message is quite good.

“I would like to see more face-to-face stuff on positive compliance. That would be really useful and would make it less rule-based and more about good practice.”

Netting adds: “If this is all that comes out, then it will be a missed opportunity.”

Threesixty managing director Phil Young adds the regulator needs to more clearly establish penalties for failing to comply with its expectations on due diligence.

He says: “No one really knows what the consequences are, so it becomes easy to take a risk on something like retro-fitting.

“We’ve seen some big fines elsewhere, but there isn’t really the same awareness on this front.”

But The Consulting Consortium associate director Chris Martin says the FCA is limited in its ability to act on due diligence until more detail emerges from the European Union on rules expected as part of Mifid II.

The FCA has already confirmed plans for a roadshow of local events to meet with firms and better explain details, although this is not expected to start until March.

A spokesman for the regulator says: “We have committed to provide firms with further communications that set out our expectations in this area in further detail, to help them raise standards and adopt good practices. We are currently considering how to do this.”

Platform pressure

Meanwhile, the FCA’s reticence to focus on the role of platforms in easing fears of “status quo bias” has led some to suggest more radical reforms.

One of the cornerstones of the FCA’s due diligence report was the regulator’s fears advisers were more inclined to retain an existing platform and “retrofit” due diligence to reflect that decision.

While compliance experts suggest this is, in part, due to the challenges of moving clients between platforms, FCA director of life insurance and financial advice Linda Woodall said the regulator has “no explicit objective” to make this process easier.

She says: “In general our expectations of platforms is that they run their business in a way that doesn’t stop people from switching.”

The response has led The Lang Cat founder Mark Polson to reiterate his call for advisers to be charged directly for their use of a platform.

Investment consultancy Gbi2 managing director Graham Bentley says: “I would seriously question the benefit that consumers get out of adviser platforms.

“So it’s no surprise to hear people are wondering whether the model should be fundamentally changed in some way.

“Most advisers regard platforms as a back-office function for them, and one that someone else is paying for. Clients tend to use very little, if any, of the services that are provided.”

Young agrees. He says: “It would force advisers to scrutinise and review the market a little bit more.

“At the moment the end consumer is probably more price-sensitive than an adviser, but advisers might still view that kind of process as a papering exercise.”

Miranda SeathExpert view

Our research with advisers backs up the FCA finding that advisers are conducting regular due diligence on platforms – 84 per cent of advisers we surveyed do so at least once a year. However, the FCA’s reference to an “if it ain’t broke don’t fix it” mentality at  some firms does not take account of some of the complexities that advisers face.

It would have been interesting to see more detail  on the due diligence process. Robust customer segmentation should always be the starting point for advisers. How can they assess suitability otherwise? But in the case of platform due diligence, the factors that advisers will assess when thinking about suitability for clients with assets on platform will be quite different from clients bringing off-platform assets into play.

For clients with wrapped assets on platform in particular, any move to migrate assets is going to be much more complicated. It is not even possible to make in specie transfers in certain tax wrappers.

More generally, the adviser will also have to factor in how long the transfer process is likely to take and the out of market risk to the client.

The cost to the client is also a factor. Platform exit charges are a thing of the past. So in practice, cost is determined by the adviser’s time and resource.

This has led some to call for the FCA to intervene to mandate ease and speed of transfers between platforms. The FCA will not remember re-registration fondly. Applying uniform standards to a number of different stakeholders will be hard to administer and police and is likely to be costly. The shadow of Mifid II looms large over the FCA. With investment product research likely to be in the spotlight later this year, we think the FCA might just have bigger fish to fry.

Miranda Seath is senior researcher at Platforum