Investors can get confused with
the nature of investments that they have been recommended by their financial
adviser. No doubt they would have been told about the pertinent points of their
investments such as charges, taxation and exposure to risk but it is important to
also understand the comparative cost of what is being offered and what you can
probably get elsewhere. What’s more in an ever evolving technological landscape
you should also be thinking about how your provider has made use of those web
based interfaces to make your investment experience that much more wholesome
and inviting.
It’s easy to be intimidated by
jargon and an articulate professional, but in truth there is really no
substitute for logic and common sense. Investors should be confident that they
understand the services being offered and in that regard ask the questions that
appear to sound stupid and not be
afraid to seek justification for claims being made. Simply asking, ‘How? What?
Why?’ can go a long way in testing the competency of any professional
consultant.
One such area where confusion can
exist is the different approaches to fund management and the costs associated
with the respective approaches. There are however two areas that would be
useful to understand and they are referred to as Discretionary Investment
Management (DIM) or as its old moniker Discretionary Fund Management (DFM) and since
2012 the rise of Model Portfolios; but in order to understand them both we need
some historical context.
Since 2012, the financial services
industry has changed radically following the implementation of what was known
as the Retail Distribution Review or RDR, and it is generally agreed for the
better, especially in relation to improving the competency of financial
advisers, the transparency in costs and the investment management service
itself.
In the past advisers retained the
responsibility for fund selection and asset allocation and would require
consent to make changes to the overall portfolio. This was known as an
‘advisory portfolio’; this ‘advisory portfolio’ included a form of fund
management services, although, within the ‘advisory portfolio’ it was limited
to the particular fund that particular fund manager was in charge of. So there
would essentially be multiple fund managers, all working independently of each
other, contributing to the performance of the wider portfolio which had the
oversight of the financial adviser.
Also during this period a premium
service existed that could manage a client’s entire investment portfolio day to
day and that particular service offering
was provided by a DFM who would construct a portfolio based on the client’s
attitude to risk and investment strategy i.e. particular ethical considerations
or interest in niche investment areas which would all be explored by the
adviser.
However, the DFM would not need to seek consent from the client to
make decisions to alter the holdings in order to respond to market changes,
which was crucial in reducing risk and maximising market opportunities. Now the
privilege of having a DFM to manage your investments would often require
several hundred thousands of pounds to invest due to the associated costs of
research and day to day investment management, thus this being of benefit to the
few with the rest having to rely on the more accessible and cheaper ‘advisory
portfolios’.
Now fast forward to today and the
investment universe has evolved, with contributory influences coming from I.T
and now DIM service providers. The I.T industry has recognised that they can
provide an interface between fund management and the client and the DIMs have
thought about ways to implement solutions for both advisers having to deal with
the change in the regulatory landscape mandating better investment management for
their clients but also recognising a market opportunity to service clients with
less than the several hundred thousand to invest.
This has led to the development
of model portfolios which comprise
of a bespoke mix of investments for a number of different risk profiles. The
adviser concludes which model would be suitable for you and invests your monies
into that portfolio. On the face of it, it appears similar to what DFMs end up
doing i.e. managing your monies in line with the parameters given by your
adviser but crucially I.T plays a significant part in ensuring a model
portfolio retains its integrity throughout the year via periodic rebalancing.
This means that based on market movements, a particular asset class may become
disproportionately represented due to its increase or decrease in value thereby
affecting the risk vs reward balance. In order to mitigate an adverse exposure
to risk, units or shares are automatically sold to return the portfolio to its
initial position.
Whereas with a discretionary
investment management service you have a specific investment team looking after
your portfolio day to day, with a model portfolio, you still have access to
those specialist fund managers focusing on their respective areas independently
but I.T plays a crucial role in ensuring your portfolio is not exposed to too
much risk or maintaining levels to encourage efficient rewards.
It is for this reason, model
portfolios tend to be considerably cheaper than DIM services and for the
majority of investors where a bespoke investment strategy guided by the client
is not required, it offers a sensible solution to meet their needs.
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