It is easy to assume that the Retail Distribution Review (RDR) is simply another wheeze by grey-suited regulators to keep themselves busy, but the implications for consumers are potentially far-reaching.
It is arguably the biggest shake-up of the retail investment sector since the Big Bang 26 years ago when the financial markets were suddenly deregulated, and will impact how consumers receive and pay for financial advice from next year.
RDR at a glance
The RDR will come into effect for financial advisers on 1 January 2013
- It will ban commission on investment products and advisers will have to charge clients a fee instead
- The RDR will set the qualification benchmark higher for advisers
- The RDR will come into effect for platforms on 1 January 2014
- Trail commission will continue for products that are bought before the RDR deadlines
The aim of the review is worthy. In a recent speech, Linda Woodall of the Financial Services Authority said that the RDR is about "making consumers more confident about getting advice and trusting what [advisers] tell them; ensuring what [advisers] do is properly recognised as a profession by settling minimum standards; getting [advisers] to describe what [they] do in a way [their] customers can understand; and making sure commission or other forms of remuneration do not influence [their] decisions and the quality of advice [they] offer".
In other words the FSA wants to make sure consumers are clear about who is being paid, for what, and by whom.
The headline initiative has been around fees. Many advisers have traditionally been paid by commission from product providers. This has led to accusations of bias. From 1 January next year, advisers will have to be paid through "adviser charging". This must be agreed with the client upfront. In practice this means that the majority of clients, used to receiving "free" advice, will now have to pay their adviser a fee.
Colin Low, chartered financial planner at Dedham-based wealth manager Kingsfleet Wealth, says this change will show the value people are getting from their advisers. "Some people haven't had the service from advisers that the level of commission should have bought them. From January of next year, advised clients have the option of saying that they are not going to pay anymore. Ultimately there should be better quality of advice as a result."
Jamie Berry, executive chairman of Berry Asset Management, private client wealth managers, says the changes will promote transparency: "The RDR should make hidden extra charges a thing of the past. It won't be cheaper for private investors - indeed there is ever-growing pressure for fees to rise - but at least they will have a much clearer idea of total costs. These may seem high to some people, but in fact the use of institutional class shares in funds and low or no dealing charges result in the UK investor now enjoying investment expertise at prices which are lower than many major investment institutions would pay."
Ashley Clark, chartered financial planner at Roberts Clark Independent Financial Solutions, says the introduction of fees will not necessarily see people pay higher costs over the long term, even though they need to get used to handing over a cheque for advice: "The additional transparency clients will get is much better. We have been fee-based for 12 years and generally get [fund] charges 50 to 75% lower than is available in the market. This can have a tangible benefit on a long-term pension fund."
Nevertheless, there will be those who do not want to pay a fee and decide to do away with the services of advisers. This has led to concern about a reduction in the availability of advice. Flora Maudsley-Barton, chartered financial planner at Parsonage Financial Planning, says this is not necessarily a bad thing.
"There should be more winners than losers. It is clear that skilled financial consultancy will need to be paid for. However, there are some people who only want to put a bit of money aside every month and may only be dipping a toe in financial markets. They don't want advice and they won't need to receive advice. People who make the right choices will not incur the costs associated with advice."
More attention on direct-to-consumer advice
Of course, it may also mean that some people who need advice may not get it, but Clark believes that it will also mean more attention is paid to the direct-to-consumer channel. Some advisers are launching consumer platforms, and companies such as Hargreaves Lansdown have broadened the tools on their websites to help non-advised investors select funds and build a portfolio. But not all these initiatives are good.
Clark cautions that it may see some clients buying unsuitable products where, unlike investors with an adviser, they will have no comeback. Advisers are liable for all the advice they give. If consumers are mis-sold, they can apply for compensation through the Financial Services Compensation Scheme.
Clark believes there is a danger that some larger groups will dress up advised sales as non-advised sales to avoid liabilities. It is an accusation often levelled at the banking groups, all of which have moved away from directly offering advice.
As with all regulation, there are unintended consequences. Advisers can no longer collect trail commission on any new business or switches after the RDR deadline. This means that some advisers may make changes to client portfolios now to ensure they can continue collecting ongoing commission after the deadline.
Lee Robertson, chief executive officer at Investment Quorum, says: "Beware last-minute commission stockpiling, particularly by banks who are often charging up to 7% initial commission on lump sums."
It is also worth non-advised investors checking the commission arrangements of their platform provider. If people have regular savings set up, or existing assets, platform providers can continue to receive ongoing commission from fund managers after the RDR deadline. Platforms have a different RDR deadline from financial advisers - they have to comply by 1 January 2014. While 0.5% commission may not sound a lot, it can put a dent in retirement savings.
The RDR requires advisers to give every client exactly the same advice. In practice, this is difficult because few clients have exactly the same needs. However, it has led to an increasing trend towards commoditisation of investment portfolios. Advisers will now increasingly offer a range of "model" portfolios, matched to a client's risk profile. These will comprise a panel of preferred funds, blended to give adequate diversification. This may or may not be a good way to invest, but it has become a more popular option for wealth managers ahead of the RDR because it has proved an effective way of managing their compliance burden. Equally, many advisers are choosing to outsource their investment management rather than being stock or fund selectors themselves. This may see investment management transferred to a discretionary fund manager.
Some platforms - Interactive Investor, Alliance Trust Savings, Cavendish Online and Massows, for example - rebate commission in full, although they charge a quarterly or annual platform fee. Failing that, if you don't want to pay trail commission but want to invest a lump sum or set up new regular payment schemes, consider transferring to a nil-commission platform after the 2014 deadline.
The RDR also aims to set the qualification benchmark higher for advisers. Berry says: "A key objective for the FSA is for consumers to receive advice from highly respected professionals, with the appropriate qualifications to boot. Interestingly, despite the initial fear that many experienced advisers would leave the industry, the recent FSA survey showed that progress towards qualification looks to be on track. The latest statistics show 96% of advisers are now RDR qualified."
There is no doubt that this will generally be a good development for the financial advice industry. People can expect to be advised by people with a better level of knowledge.
What is an independent adviser?
The definition of "independence" has always been thornier than it appears. Until the new regulations came in, advisers could call themselves independent if they advised across the whole market. Now advisers have to consider all financial products.
For example, an investment specialist adviser would have to consider structured products, private equity, venture capital trusts and all manner of other products to be able to call themselves "independent".
For this reason, many advisers have taken the decision not to remain "independent". Berry says: "As specialist investment managers we will be referred to as 'restricted' under the RDR. We prefer to concentrate on this highly specialist aspect of the overall financial needs of private investors."
Robertson adds: "Restricted does not mean lesser qualifications as everyone must hold a certain level of qualification. To further confuse the situation, advisers can be 'tied to whole of market', which arguably is what would be considered 'independent' at the moment. Restricted does not necessarily mean 'less' than independent but could mean 'specialist'. Single-offering operations such as stockbrokers appear likely to be called restricted too."
It is worth noting that - for the time being - the RDR only applies to retail investment funds and not to insurance products. It is likely that regulation will ultimately be introduced to address this discrepancy, but not in the short term.
The RDR should result in a more professional and transparent advice industry, and in more sophisticated direct-to-consumer offerings. The bad news is some people may not get the financial products they need.