Last month, the FCA published the much-awaited results of its suitability study.
The review, having assessed 1,142 individual pieces of advice given by 656 firms against the suitability and disclosure rules in the Conduct of Business Sourcebook (COBS), found that in 93.1% of the cases the sector was providing suitable advice to investors. The regulator has called the results both positive and encouraging.
The regulator embarked on the suitability review in early 2016 to shed light on how the Advice sector was performing and to identify specific areas that pose greater risk to investors. Although the evidence of unsuitable and unclear advice (4.3% and 2.5% respectively) was low, the FCA has expressed concern regarding risk profiling processes carried out in some cases.
Investor risk profiling in focus
Speaking at the Thesis conference in Winchester last week, Rory Percival (ex-technical specialist at the FCA) reminded the room of the FCA’s continuing concerns in the area - encouraging firms to carefully consider and mitigate the limitations of their specific risk profiling tools. Use of complex questions, middle answers ('maybe', 'somewhat' etc) and ambiguous risk grading hardly lends itself to helping Advisers truly assess risk and Rory stressed the need for consistent client conversations to truly judge a client’s attitude.
Another grey area was judging capacity for loss. Rory said that most Advisers don’t do enough in way of judging a clients’ capacity for loss and often confused risk profiling with assessing a client’s capacity for loss. His research had found evidence of standardised reporting (read our post on reporting) and again stressed the need with clients to ascertain their investment goals and their attitudes towards spending.
Find out more about FE's Attitude to Risk Questionnaire here
The need for holistic approach to risk
In keeping with the risk theme, FE conducted its annual Adviser survey to better understand how the market is navigating the risk landscape. We found that 74 per cent of respondents used ATRQs while explaining risk to a client. This heavy reliance amongst advisers on Attitude to Risk Questionnaires (ATRQs) to assess clients risk appetite translated through to a greater focus on risk attitudes rather than financial goals when determining portfolio construction. Advisers admitted to placing more emphasis (60 per cent) on how risk-focused a client is (reflecting their attitude to risk and capacity for loss) compared to a 40 per cent emphasis on their goals and objectives.
Whilst the attitude to risk questionnaire offers a great starting point for risk assessment, previously published guidance has warned that risk-profiling questionnaires or tools do not always provide the right answer and certain circumstances, the output might not accurately reflect the risk that a customer is willing or able to take. Advisers ought to be cautious of over reliance on the tool and instead view risk assessment as a fluid, ongoing process/relationship between the Adviser and investor for it to be beneficial to both parties. By focusing on term-based specific financial goals of investors, there is significant potential for advisers to add value by educating clients on the potential merits of adopting a certain investment style, resulting in more suitable advice.
Getting it right – guidance to rules
As the industry prepares for the move from guidance based approach to rules based regulation, it is imperative that Advisers pay closer attention and conduct due diligence on their risk profiling. MIFID II, due to be published this month will state that Advisers must take ‘’reasonable steps’’ to ensure all information collected on clients is reliable. This extends to risk-profiling and their suitability, meaning advisers could be required to rectify any significant issues in their current process.
Contact us at enquiries@financialexpress.net for more information.