It’s all about the money

The long awaited FCA Paper on cash rebates came out last week. In reality nothing has really changed although I will be first to admit I need to read the detail. But the key message is that cash rebates from fund managers have gone.

I have long been agnostic on this, I understand arguments from both camps however where I take issue is what I call hidden payments. This is nothing underhand but it is a way of concealing what you (the provider) are receiving for your service.

Over the last ten years a vast majority of financial planners have moved to a fee based structure service, whether this is through an hourly rate, a fixed percentage, a retainer fee or a combination of fee structures. Financial planners have also had to articulate their service proposition, in a recent blog I expanded on this to explain that what is perceived as service (i.e. investment performance) is only a part of the overall service proposition.

And this is the rub we have a part of the industry where they have moved to a clean structure and what happened on the 1 January made little difference to them. The reason why I am agnostic on the rebates is that in many cases the rebates from fund managers came back to the client and sat in their cash account, the client could then choose whether to use this to pay the fee or invest the money which I think is fair. Now they don’t have that choice, whether that is right or wrong cannot be argued now.

The other part of the market is the direct market and I believe they have a bigger challenge. Let me explain why, when you go direct the key reason has always been about cost and the ability to deliver something that is better than what a financial planner can deliver. There is an additional argument now about not being able to get advice but I want to park that for the time being.

Many of these platforms have argued that they offer a “free service”, the reason for this is that their profit is driven from the rebates they get from fund managers. The service you get for free is often tips on investments and in reality most investors pick these investments without little thought. Two things are about to happen, firstly these companies are going to have state a fee for their service, and eventually I think over the next two years the legacy products will have rebates stopped.

Now those that have prided themselves on a free service face a challenge. I have two investment platforms I use. One charges me £20 a quarter plus trading charges but fully rebates any fund manager rebates. For that I get access to a platform where I can trade. I get no other service other than access to information on their website which includes blogs etc. On the other side I pay no fee but I know the platform receives rebates from the fund managers. The platform is no different to the one that I pay £20 a quarter but I get lots of marketing information (which I have to say ends up in the bin).

Now on the second one I know their average investment is around £40,000 so assuming on average they get around 0.75% on rebates this means they are getting £300 a year. This is around £25 per month. Now with the changes coming in this has to stop. My simple maths shows that somehow they have to make this money to keep the business model alive, and this is my problem when I go direct I don’t see the value in their service because I get an equally good service for £20 a quarter. If they come in at this level then fine but £75 a quarter then I would look to go elsewhere.

My point is this financial planners have had to adapt over the last ten years to a clean structure, and a clear service proposition. Direct propositions have not, they now have a very short period of time to adopt this and articulate their service proposition in such way that someone sees value in this.

Now if we take the argument that most direct investors are sophisticated then it won’t take long for people to think I can get this fund for 0.75% and pay £20 a quarter for the platform. Why would I pay any more?

The value of share and fund information I would argue is old news, in this modern age we can simple go online and identify performance information, and then drill down into the fund and this is what sophisticated investors will do they don’t need marketing information to tell them something that they already know.

Let me take a couple of examples, when I look at shares I tend to consider the business i.e. are they market dominate so for example could someone easily replicate there business model, I then look at cash flow and finally I ask if the share is a fair price. There is one direct proposition where I would argue that they tick all the boxes but the share price is high. Now I could consider that on the upward curve it still has some way to go but if I consider the cash flow is driven by rebates which are going I would start to be concerned. It is like knowing the party is coming to an end but you just don’t when and therefore you have to make the decision do you leave the party early or stay to the end?

I apply the same thought process to funds, for example on a macro level Japan is a very interesting place to be. This could be a final roll of the dice but actually when you drill down you find you have the first dominate party in the lower house and potentially the upper house. You then have the debate around the Yen. Once you know all of this you can then consider how you can best benefit from this opportunity.

My point with these two examples is that if I was supplied with this level of detail then I would be happy to pay a premium for the service but in reality I haven’t seen any direct proposition that delivers this.

So we come to it all being about the money, direct propositions are going to have to change their price models (if they have not already done so) and they are going to have consider whether the service they offer and perceive to be of value is of true value to the end customer. Only the customer can decide that.  

Should we take the tablet or not?

When I was a teenager I suffered from migraines, as I have grown up the migraines have almost stopped. However, every time I think I am about to have a headache (which then potentially could turn to a migraine) I take tablets. There is an argument that if I didn’t take the tables then I wouldn’t get headaches and they wouldn’t turn to a migraine however I take the tablets and as a result of it I feel a lot better. 

When we consider what is happening in the developed world, especially the US and the UK we don’t know what would have happened if quantitative easing had not happened and interest rates crushed down to all-time lows. But what we do know is that the US is starting to show positive signs and is an economy coming back to life. Despite those who would like to think differently I think over the next couple of years the UK will follow. If they hadn’t done this it is likely we would be in a very different place.

My recent blog discussed the value of paying a fee to a financial planner and how actually the value is greater than what we tend to think it is. Paying a financial planner is not just about how the money is invested but about listening to what someone wants and drawing up a plan to deliver on that. Effectively it is about peace of mind. 

Going back to my headline should we take the tablet or not, if we take the tablet and pay for financial planning I would argue that for the average investor they will be in a much better position than they would have been if they had not. Let me give you an example, I know someone who has been saving for a deposit for a house since they were 18. They have been saving for 8 years and have around £40,000 in cash. They have no idea whether the money is in an ISA or not, or any idea what interest if any they are getting. 

If they had taken the tablet it is likely they would have been in a much better place today. The tablet helps people draw up plans, think rationally and gives them peace of mind. I take tablets and I don’t get migraines. If I didn’t take tablets I could possible get migraines and I am not prepared to take that risk. There are investors who will take that risk, who will plan and they don’t need to take tablet but we are talking about a minority and not the majority we are led to believe. 

So if you are an investor and considering whether to take the tablet or not, consider this before you make the decision – by not taking the tablet are you prepared to take the potential consequences of what could happen by not taking it? Remember those who offer you DIY solutions are not out there to help you, other than potentially save you money? If you are not then take the tablet and seek advice, a fee up to 1% could be the best investment you ever make. 

Discuss?????

There is gold in them hills….

With over twenty years’ experience in financial services I have been fortunate to work in product development and distribution to the intermediary market, product distribution to the direct client and financial planning.

I will argue that there is a place for both direct clients and financial planning but there are concerns that I have about the DIY market.

Firstly I want to touch on the financial planning market, this has changed massively over the last ten years and as you will see from my last blog financial planning is less about the investment but more about the plan and taking someone along that journey. You could argue that perhaps financial advice in the past might have been a little bit like the Wild West but like the Wild West it has now become respectable, of course there will be some blips but every industry has that.

Over a two year period I developed a direct to consumer wrap platform, I haven’t spoken about this in detail before but the premise was that the company I worked for was a successful online marketing platform. They had had considerable success in selling structured products and cash products to individuals and they believed that they could repeat this success through a direct platform providing other investment products.

Their marketing strategy opened my eyes to how it all works; it is all about selling products and headlines. The individual is sucked into the headlines “a 6% p.a. return” looks good and an individual is drawn to that.

I won’t be drawn as to the rights or wrongs of this because I was part of this but it is an important point to consider.

I recently met someone who stated that changes in the financial industry post RDR offer massive opportunities in the direct space, in fact the way he was talking almost implied that the people left without advice where fair game and effectively rich pickings. Perhaps this is unfair but I challenged him on this and explained that I felt that actually where the opportunity is, is not around the products and investments but around education and then providing the tools to deliver goals.

But clearly this individual did not believe this, he just saw the opportunities to pick up orphaned clients and sell them products. I have seen papers encouraging people to abandon their IFAs and go direct, I have heard IFAs say how they will open a direct platform and to me all of this reminds me of the old days of the Wild West. There are potentially a handful of successful gold mines built over a number of years, and now there are lots of prospectors trying to take that gold with little knowledge of how to do it (although they believe they have the knowledge).

I believe in some cases these successful gold mines will need to change but these new prospectors are too busy following what has happened in the past without considering that the future is different. I also feel that actually for many of those prospectors opening up new sites and looking for “opportunities” their focus is on the gold without considering the client.

I predict like the intermediary world of old, the industry will over the next ten years go through a massive reshuffle with many losers but there will be winners and they will be those who don’t focus their models on the past but consider how the future might look. At the moment I haven’t seen any that take this approach.

And why do I think this, just consider how financial planning has changed to putting the client at the centre of its proposition…..

So beware of the gold seekers…….

I will do anything but I won’t pay 1% for that

As financial planners one of the key aspects of our proposition is to understand an individual’s goals and then draw up a plan to deliver on those goals. I certainly wouldn’t hide from the fact that the way we invest money is also an important part of the proposition we deliver to clients and we do look to add value by outperforming the benchmark set for the portfolios.

Perhaps, we focus too much on the delivery of goals and the aim to outperform the benchmark because when we under-perform it is this that we are judged on rather than the years that we outperform. In fact research shows that even the best of the best can struggle to outperform all the time.

The point of this is that actually the performance is only a part of the package (and an important part) but there are other aspects which are just as important. Often the media focus on the fee you pay and judge it against the performance, why pay a fee of say 1% when you could do it yourself and outperform your financial planner but the 1% fee is much more than the performance of the portfolio.

I challenge the fact that a financial planner will also do things that the average DIY investor will not:

A rational head

One of the hardest things is not to follow the herd; we often get caught up in the rush. So bubbles draw us in because we want something that others have had, equally when crashes happen we rush to exit with no clear plan of what we are doing. Patient and careful investors will be rewarded because often they are contrarian and they don’t chase the quickest return i.e. they adopt a get rich slowly approach.

I would argue that the Financial Planner is that rational head when everything else is irrational. They will ask you questions that you don’t ask yourself when doing your own investments. Examples of the types of questions are things like – do you have a will, are your children going to university and how will you fund this, what will you do if you lose your job, when do you plan to retire and if you have to go into a nursing home how will you fund this.

These are difficult questions and often ones we will not discuss when we do our own investments, if we can answer these types of questions we can then start to have a rational head because any decisions we make come back to what we are looking to do.

Having a plan

For a long time I have argued about having a plan, we often read about DIY investors and how they have made a fortune by going direct. Remember there are many DIY investors who have lost a fortune by investing. But often it is not about the return that is important but what is the plan.

This is really hard to do and many people never do this. The reason is that it takes time and it can hurt. If we look at the rational head, what is the plan if you lose your job? If you have no insurance to cover you then have you money to cover this? If you plan to retire at 65 is this part retirement or full retirement, have you considered how much you need and how to get this in the most tax efficient way.

Remember annuity rates are not poor they reflect a changing society and we need to reflect this in our retirement planning.

Understanding the risks

The premise of doing it yourself is often focused on how your portfolio performs, take this example in 1999 one the top performing US funds returned over 100% compared to some more average USfunds returning around 15 – 20%. In reality you would be happy with 15 – 20% but often rational thoughts disappear when you see returns of 100%. In reality the fund which has outperformed carried additional risk and understanding that risk is important.

Having a plan is crucial but understanding how you are going to achieve that is also an important consideration. I would argue that a portfolio of funds (or shares) can spread your risk but also understanding how the funds operate and whether they can capture what you believe to be the next opportunities without putting additional risk in the portfolio.

I will leave you with two thoughts, in the US I believe there is a great deal of potential over the next ten years. I also believe that the companies that will benefit from that are in the small to mid-cap region. I know that that potentially carries additional risk so I will look to understand more about the fund manager and where he invests to see if he is likely to deliver without heightening the risk. In Japan because of the changes I believe a currency hedged Japanese Fund could provide excellent returns over the next 12 months and possible longer however I need to counter that with effectively a currency airbag fund which can protect my portfolio if I get that wrong.

The markets are volatile

I meet a lot of fund managers and talk about how they manage money. One thing that comes across is a cautious optimism and for they believe that there are signs that we are facing a new bull market.

The bull market of the eighties and nineties saw an upward curve with very little volatility but almost everyone is agreed that this time it is different. Cyprus demonstrates the fragility of Europe and North Korea the potential threats of another unwanted conflict. The point is that the markets will be volatile and even if we have a bull market it will be a wobble rather than a straight upward curve.

When the markets wobble we stress to clients to hold their nerve because it is a wobble. Even in 2011 when it wobbled the losses have now been made up. If your philosophy and planning is right then a wobble shouldn’t worry you.

Biases

There tends to be a tendency both through the regulators, press and individuals to be risk averse especially at retirement. I have argued for a long time that the world has changed. If we retire at 65 with £100,000 it is not about lasting five years, it is about living for 15 to 20 years. However, because we are at retirement we switch to a risk adverse mind-set. This means we turn to cash and bonds for protection. However, we know that interest rates are not going up anytime soon and that we are paying a premium for yields on bonds. If we put inflation into the mix then this cannot be a good long term investment.

This is a just an example but we all have biases and these need to be challenged as to whether they help or hinder the deliverance of our goals.

I called this blog “I will do anything but I won’t pay 1% for that” for a reason – if you consider how DIY platforms market themselves and how the press report the surge in DIY investments they focus purely on price. They also show the best performing shares and funds. But you don’t pay a financial planner 1% just for investing, it is much more than that it is about providing a rational head, it is about drawing up a plan, it is about consider your tolerance to risk, it is about challenging your biases and ultimately it is about peace of mind.

When you look at it that way then actually a 1% fee doesn’t seem that expensive…….. and the value of advice can be a worth a considerable amount more than what you pay for it.