Secret agents with no licence to thrill

I’ve just unwrapped my office Secret Santa present and I’m disappointed. It was beautifully wrapped, weighty and could so easily have been a bottle of fine claret or a single malt. In fact, it was a novelty doorstop – very useful in an open plan office! Still, it’s the thought that counts, right?

Secret Santa aside, I am far more concerned about the way financial advisers might believe they are getting a good package when signing up with DFM partners to outsource investments yet may not have completely unwrapped the cover yet.

The reason for this is down to three short words: agent as client. This is how many DFMs position their services with advisers because it appears to meet all the advisers’ requirements of outsourcing: adviser keeps complete control of the client relationship whilst the DFM has no relationship with the client and is responsible for all aspects of the investment solution.

Sounds good, doesn’t it? Clean and simple. Unfortunately, when you get into the detail it’s easy to see why this ‘secret agent’ arrangement isn’t perhaps as ideal as it appears at first glance. The DFM may also treat the adviser as a Professional Client which sounds good but should come with a health warning for any professional adviser because it removes the DFM from any claims that might be made to the Financial Services Compensation Scheme or Financial Ombudsman Service.

Under the ‘agent as client’ agreement, the adviser agrees that the DFM will run the investments for clients, with the responsibility for all the suitability of those decisions sitting with the adviser. This includes investment suitability, which means the adviser should have enough knowledge and expertise in the investment process, with appropriate controls and oversight in place to be confident that the DFM is making the right decisions on behalf of the end clients. If something goes wrong and a client isn’t happy with how investments are shaping up, it will be the adviser who will suffer the consequences, especially if classed as a Professional Client who, has the lowest level of investor protection.

Also, it’s likely that neither the adviser or the DFM will actually have the necessary discretionary authority to make investment decisions by the end client, yet changes will be made to investments without first seeking permission from clients. Advisers who don’t have discretionary permissions and who choose to run investments for clients in-house will be all too familiar with the need to contact clients to get their sign-off on any changes that will be made to the investment set-up (and the frustration of not getting responses from clients to allow changes to be made).

With such serious flaws in the ‘agent as client’ contract, it’s amazing that anyone signs up to it. Yet it seems to be standard practice for the vast majority of DFMs (not PortfolioMetrix, I’m pleased to say).

With the FCA increasing its focus on asset management, it’s going to be interesting to see just how sustainable the secret agent model will be.

Happy Christmas everyone.