Financial planning's blame game

Claims by the financial planning industry that all industry participants, including research providers, should be liable for some client losses has been met with a mixed response from the research side, writes Milana Pokrajac.

Research houses are currently not included in investigations following product failures, despite being regulated and having a licence to participate in the system, according to the Financial Planning Association (FPA) deputy chief, Deen Sanders. 

Sanders, along with the rest of the financial planning community, has long advocated a “more proportionate” retail investor compensation system, which would see all industry participants, including research houses, appropriately liable. 

He claimed dealer groups and small financial planning practices should not carry all the responsibility on their own, especially not in circumstances where a product or a managed investment scheme fails.

Background

Earlier this year, the Treasury released its review of compensation arrangements for consumers of financial services, compiled by lawyer, Richard St John. St John found that the current system was inadequate, as licensees relied heavily on professional indemnity insurance. 

The review therefore recommended the creation of a last resort compensation scheme which would be funded by licensees; the pooled money would be drawn upon when a professional indemnity insurer fails to compensate a client for their loss. 

The FPA had initially come out in support of the scheme, but sought further discussion about the extent to which failed investments should be blamed on financial advice given to the client, and the extent to which the proposed scheme should be funded by licensees alone. 

In its submission to the Treasury’s review, the association has put the view that a consumer protection system would not be effective or complete unless the responsibilities of all participants in the ‘pooled investment chain’ are “appropriately recognised and are made accountable for their failings to retail consumers”. 

These include product issuers, ratings agencies, research houses, auditors, and regulators – among others, according to the FPA. 

“An investor relies on a financial planner to know and understand products that exist in the market place; a financial planner in turn should be able to rely on the experts that guide them in relation to the qualifications and application of products,” Sanders said.

Sanders further stated that there was currently no capacity within the system for those parties to be called upon for compensation, other than a civil suit undertaken by the planner or the client – whoever may have relied on their advice – which he claims is neither sensible nor effective.

“We’re not suggesting that the research houses should take all the responsibility either – it’s a question of proportionality in terms of what pieces of information and evidence do people rely on to inform themselves over a decision,” he added.

Mixed opinions

Zenith Investment Partners director David Wright and van Eyk Research chief executive officer Mark Thomas have agreed that seeking researcher accountability was fair and reasonable. 

“If it was found that a research group had been negligent or lacked detail in their due diligence approach in rating a product that ultimately failed, then sure, that research group should bear some of the responsibility for the future,” Wright said, adding researchers should probably be included in the proposed compensation scheme.

 “Anything that builds consumer confidence in the financial advice industry needs to be shown in a positive light,” he added.

However, while noting it was important that everyone played a role, Morningstar’s co-head of managed fund research, Chris Douglas, argued researchers are not able to know the individual needs and objectives of clients.

“What we’re providing is a broad class service to the market, so financial advisers can be more acute and aware of which fund is more suitable for their clients,” Douglas said.

This argument was supported by Standard & Poor’s (S&P) chief Leanne Milton, who added it has never been S&P’s role to conduct “due diligence” on information provided by fund managers.

“It is fund managers that verify the data provided to research houses; research houses are not auditors or investigators,” Milton said.

Thomas said his company had an ongoing dialogue with the regulators, and had assisted them in inquiries around certain questions; adding that this was the role which should be played by research providers.

“In dealer group land, they’ve got suggested models, and there’s compliance around that – but ultimately it’s up to the adviser to implement those things,” Thomas said.

Remuneration model still a concern

Liability should not be an issue as long as all participants create, recommend or enter the investment with eyes wide open, according to van Eyk chief.

The research provider remuneration debate has long been running in the industry, but Thomas said there still needed to be greater disclosure around the pay for ratings model.

“If you’re giving advice to someone based on research which is funded by a promoter – the client should be made aware,” he added.

However, FPA’s Sanders said the association was less concerned about who pays for the research, but rather about conflicts that arise from that.

“If you buy the material, but you can’t rely on it for purposes of protection, you have to ask ‘why is it so expensive?’,” he said.

Conflicts could be eliminated by reducing the “shopping mentality of product manufacturers where they just keep shopping until they find a researcher that’s prepared to say positive things,” according to Sanders.

“There is no requirement for multiple validation of data that is in the hands of consumers and advisers; three agencies out of four might have rated the product poorly, but the only one that gets reported is the one that rates it high,” Sanders said.

Thomas added the Treasury had recently stated that conflicts did exist within pay for ratings models.

“I don’t know whether that’ll make it through to regulation or letter of law; I have no issue with people charging for ratings, provided those who are relying on them are made aware that that is the case,” he said.