Financial services regulation is usually greeted with much huffing and puffing and reasons why it will be too difficult, too costly and too time-consuming to implement. There are probably elements of truth in all these protests but it is important to remember why the regulation comes in – and it all boils down to Treating Customers Fairly or ‘TCF’. Ring any bells?
Most firms – whether they are advising clients or running assets – do have the interests of the end-client in mind. Crucially though, they do need to keep asking themselves: could more be done? The regulator clearly thinks so, hence the continual iterations of regulation.
Over the past 10 years, we have seen a number of significant regulatory announcements and changes to practice, alongside an investment universe in which the evolution and change has been just as profound. Most notable is the rise and prominence of discretionary model portfolio services (MPS) to challenge the longer-standing formally structured fund-of-funds and ‘multi-asset’ solutions.
“It is not up to us to judge value for money – but we do see it as our duty to support advisers by pointing out where questions should be asked.
The Retail Distribution Review, which has now been in force for more than a decade, started to change the industry, ushering in the era of ‘clean’ share classes and annual management charges (AMCs) dropped on average by 0.5% – a positive for the customer. Yet, still to this day, we can clearly see and observe inconsistencies in a fund’s AMC, depending on the value of investment and platform upon which it is being purchased. Is this really TCF and does it not create a societal divide? Work still to be done here by all concerned.
Transparency requirements
Back in 2018, following the introduction of the European delegated directive, ‘MiFID II’, the industry had to start adopting transparency requirements in relation to disclosing costs and charges. This required asset managers to be transparent around all the detailed costs involved in an investment – both explicit and implicit – creating even greater scrutiny around the total cost an end-customer has to face.
Even with the evidentiary information available, however, by 2019 there was little change in price pressures. As a result of the 2017 FCA Asset Management Market Study, ‘assessment of value’ (AoV) reporting requirements for authorised fund managers were introduced. Asset managers were obliged to assess their funds at least annually on whether their fees and charges were justified in terms of value to the end-investor. This, together with an assessment of the quality of service, had to be available to investors.
Needless to say, there was not an avalanche of change, with the FCA expressing concerns over profitability exerting too much sway over any value assessment decision-making. Boards were encouraged to challenge senior managers and not take at face value the AoV outcomes – in other words, the regulators were not happy with the results, publishing regular commentary of incorrect reporting.
And while the attention and focus was on the authorised fund managers, there in the background could be spotted the continuing rise and prominence of the discretionary model portfolio service, challenging the industry both from a cost and a service perspective.
Light on detail – and action
Fast-forward to the Consumer Duty rules of July 2023, which expanded the concept of AoV on a wider scale to include product manufacturers, such as discretionary fund managers, via the requirement to produce ‘fair value assessments’ (FVA). Here at Defaqto we have read many such assessments and it has to be said that many were light on detail, evidentiary numbers and proposed actions. Very few concluded there was a need for fund/portfolio closure or reductions in charges or defined remedial action of any sort.
Many would argue this was unsurprising given providers were essentially marking their own homework and so, given the disappointing outcome of AoV and FVAs, it is no surprise that Consumer Duty was brought in with such ‘stern’ rhetoric as “Get your ducks in a row”, “Do the right thing” and “There is nowhere to hide”. Quite aggressive language for a regulator.
The frustrations of the FCA are understandable and recent history shows that asset managers are reluctant and generally slow to take action that is likely to reduce their profitability and, in some cases their reputation, if their expertise is called in to question.
Asset managers do now publish the required information – primarily because they have to – and yet, in isolation, it does not have much value. Here at Defaqto, therefore, we have concluded it is up to the data vendors such as ourselves to keep shining a light on potential issues. It is not up to us to judge value for money – but we do see it as our duty to support advisers by pointing out where questions should be asked.
Comparison analysis
Within the funds arena, there is now a formal framework for the submission of MIFID II costs and charges. Performance analysis predominantly revolves around the IA sectors – however, until recently, there was no equivalent performance comparator in the fast-growing arena of MPS, with any comparison analysis often using the IA sectors or less relevant benchmarks such as CPI, cash or an equity index.
For our part, we were conscious that, given Consumer Duty requirements, advisers would have found it extremely difficult to fully appraise and compare the MPS universe and that more relevant comparisons would be required. Defaqto boasts the broadest coverage of MPS portfolios in the industry – now in excess of 2,800 portfolios – with data having been collected for the past 15 years.
We collect MIFID II costs for these portfolios, we collect asset allocations for these portfolios and we calculate performance for more than 95% of these – and the data is updated regularly. Thus, early in 2023, we set about building relevant benchmarks for MPS portfolio comparisons to aid advisers with their Consumer Duty obligations.
The result – the Defaqto MPS Comparator – was launched in 2024. These benchmarks are a set of risk-based peer-group averages, designed to allow a comparison of a variety of metrics for an MPS portfolio against the average of all those that have similar characteristics in terms of realised volatility and asset allocation.
For the first time, advisers and their clients can start comparing ‘apples with apples’ across, for example, performance, total cost and asset allocations. And every month Defaqto publishes performance league tables on each Comparator and the underlying cohorts over one, three and five years.
On average, charges have been coming down over the last couple of years – whether that be across formally structured funds or MPS – and we would expect this to continue with the increased transparency and data availability. Analysis undertaken by Defaqto in the summer showed that, when comparing multi-asset to MPS, the lowest average cost solution was a fettered fund of funds at 59bps, followed by MPS at 71bps, while an unfettered fund of fund came in at 103bps. Here at Defaqto, we will continue to keep a close eye on the trends.
Andy Parsons is insight manager (investments) at Defaqto
For more on this topic, read MPS comparison tools begin to address key gap in advisers’ toolkit
