Key issues and challenges
Speech by Dan Waters, Director of Retail Policy and Conduct Risk, FSA
PFS Conference
10 July 2009
Good morning ladies and gentlemen, I would like to thank the Personal Finance Society for the invitation to speak here today.
As I am sure you know, we published our long-awaited Consultation Paper two weeks ago setting out plans for delivering our Retail Distribution Review. While we have already seen early reactions to the proposals in trade and national press alike, it may be sometime before stakeholders really get to grips with the sweeping proposals in this CP.
I would like to take the opportunity today to talk to you about some of the key issues in our proposals.
Independence and types of advice
I will start with a subject that I know will be of interest to many people in the audience today: our requirement that all advice services be described as either independent or restricted.
When we talked about finding a term to describe advice that is not independent in our Feedback Statement last year, this became a contentious issue, with strong views expressed on all sides. In line with our commitment in the Feedback Statement, we conducted consumer research to try to find a term that would create a clear distinction from independent advice and help consumers to understand the service they were receiving. After some interesting suggestions from the public - financial wizard springs to mind - research identified ‘restricted advice’ as the description that was most effective in conveying the idea of advice based on a limited range of companies, or just one, rather then the whole market.
As you might expect, the research demonstrated that a label alone would only achieve so much, and that consumers also found short statements explaining the service on offer helpful. To try to aid consumer understanding, we plan to mandate that those firms that provide restricted advice need to confirm orally to their customers that they offer restricted advice and what this means.
So which services will be described as restricted advice? Essentially, it will be any advice that does not meet our new independent standards. As well as those firms that are usually thought of as single tied or multi-tied, this might apply to firms that do not review the market comprehensively - for example, those that restrict the types of products or sales channels they are prepared to look at. Firms providing independent advice will need to ensure their recommendations are based on a comprehensive and fair analysis of the relevant market, and are unbiased and unrestricted.
We have widened the scope of the products we expect an independent adviser to consider beyond packaged products, essentially covering all products which could give a suitable outcome to a retail customer - including, for example, investment trusts and structured investment products. I want to stress, in particular, that this does not mean that we expect IFAs to suddenly start recommending structured products to all their clients; we would be concerned if this was the case. However, we would expect the firms to have sufficient knowledge of different types of products to know whether or not they would be suitable.
These proposals should make some firms think carefully about their use of panels and model portfolios. We accept that creating a well researched, frequently updated panel for front line advisers to use can be one way of delivering independent advice. Our draft rules state that a client should not be materially disadvantaged by use of a panel; and it is easy to envisage how a poorly researched panel, reviewed infrequently, could lead to a poor outcome for a client. In the same way, a firm giving independent advice will need to be take care in the way that it constructs and uses model portfolios to make sure its advice remains genuinely independent.
Adviser Charging
Moving on now, I would like to talk about our changes to adviser remuneration. I will start by saying that I applaud those firms that have shown that they understand our proposals - but as misunderstanding continues in some surprising quarters, I hope you will forgive me if I labour this point.
At the end of 2012, our new requirements will bring to an end the current system of commission in the UK. It does not matter where the commissions come from, or whether they are paid up front or over time: adviser firms will no longer be able to accept offers of commission from providers for recommending particular products. It does not matter if the commissions are directly linked to products recommended, or if the association is less direct: they will not be acceptable. For example, we will not allow adviser firms to accept commissions associated with particular tax wrappers; with particular fund supermarkets; with particular portfolio managers; or via any other mechanism you may care to think of.
As I am sure you will have realised, one of the consequences of this approach is that from the end of 2012, providers will not offer amounts of trail commission to advisers. If advisers want to offer ongoing services, and consumers think they are worth paying for, they can include ongoing charges in their price tariffs. In those circumstances, and only in those circumstances, will ongoing adviser charges be paid. To be clear, our new regime will permit, upon the instruction of the client, arrangements to be made to take such ongoing charges from the product.
I realise that some firms have concerns about their legacy business, and we will try to keep our approach to this as simple as we can. Any pre-existing trail commission can continue as before; we will not require adviser firms to revisit business conducted before the deadline. On the other hand, if an existing consumer wants a new service that they have not already paid for, the new rules on Adviser Charging will apply.
Having outlined our approach, I would like to talk about what this will mean for consumer access. I have to confess that I have been somewhat disappointed that some firms continue to complain about our Adviser Charging proposals because they believe consumers will not pay for advice up front. I am disappointed for two separate reasons, which I will explain.
First, I have been disappointed to hear firms making claims in relation to consumers investing lump sums - saying that current commission mechanisms should continue because consumers might not be prepared to pay for advice up front.
At the moment, when a consumer hands over a lump sum to be invested, some of that money is taken in product charges and some pays for commission to the adviser. Under our new proposals, the payments could flow in the same way – a consumer could hand over a lump sum for investment, knowing that certain product charges and adviser charges will be deducted from it. So what will have changed? The important difference is that the adviser charge will not be set by the product provider – it will not be a commission designed to grab the adviser’s attention – but will simply be the charge for the advice service being offered.
So when firms tell me that this will some how reduce consumer access to advice in this sort of case, I can only assume that what they mean is that consumers would stop paying for advice if they knew how much it was costing. They seem to suggest that we should, instead, continue to hide the cost from consumers. I confess I find this a terrible argument for allowing commission to exist, and I hope that it is not a widely held view.
The second claim I have heard is in relation to regular contribution products, like pensions and ISAs that are paid into monthly. It has been suggested that consumers who do not have a lump sum to start with will be cut off from getting advice by our proposals. This might particularly be the case, it seems, because we will not permit product providers to advance charges to adviser firms before collecting them from consumers.
It is worth remembering that a relatively small amount of investment business is done by advisers in relation to regular contribution products, and only a portion of that is with customers that do not also have other funds to invest. Given this, adviser firms might, perhaps, be prepared to offer flexible payment terms if they are really needed. Leaving that possibility to one side, through, I would again like to ask firms to think carefully about their arguments.
Would anyone really be prepared to argue that what someone with no savings or investments needs is a loan to pay for advice on how to starting investing their money? Because it seems to me that this is, effectively, what is being argued each time someone says that Adviser Charging will damage access to regular contribution products. If paying for advice on a regular contribution product is not going to be economical for a customer, you have to wonder why the FSA should want them to do just that.
As far as these consumer-focused strands of argument are concerned, the common thread I seem to keep returning to today is that it cannot be right to hide the cost of advice from consumers, with the intention that they neither see the cost involved nor value the services they receive. We cannot both support structures that conceal the cost of advice and complain about consumers not being prepared to pay for it. A paradigm shift is needed.
The other strand of argument, a firm-focused one, is that some advisory business models are dependent upon up-front commission payments for services that may be rendered over a number of years. To require a shift to a pay-as-you go arrangement would require a shift in business model and could imply funding difficulties, in transition and in the long term as well. That there will transitional challenges is certain. What is not at all clear to us, however, is that it is beyond the wit of advisers to make these adjustments given the long lead times involved.
Before I move on to talk about professional standards, I would like to mention one other proposal, related to the clarity of the advisory costs for consumers.
We are consulting on changes that will ban product providers from offering adviser firms products with negative product charges. You may be wondering what I mean by negative product charges – after all, how could a product provider afford to pay people to buy its products? And of course the answer is that it couldn’t. Negative product charging is not, and cannot really occur – even when you describe it by names like ‘enhanced allocation’. Allocating greater than a hundred per cent of a customer’s funds to their investment is negative charging, and hence it is not sustainable from the point of view of our regulatory objectives.
Initial allocation rates that are greater than a hundred per cent can create the impression that there are no charges to pay, that any money being paid to an adviser firm will somehow be offset by this allocation ‘gift’ from the product provider. I have nothing against firms offering low product charges, but I do not see how it can help consumers to express those charges in such a confused way. For this reason we are proposing the ban on greater than a hundred per cent allocation rates.
Professional Standards
I would like now to turn to professional standards, clearly a key issue for the PFS and for investment advisers generally. Our proposals here are a crucial input to achieving the desired RDR outcomes.
First I would like to remind you of the aim and the genesis of these proposals. We want to create professional standards which inspire consumer confidence and build trust, ultimately turning financial advice into a profession whose reputation is on a par with others, and where the implementation of an ethical code gives both real and perceived benefit.
We have had very helpful input and significant time commitment from the members of our Professional Standards Advisory Group, which includes trade associations, consumer representatives, and professional bodies, with Fay Goddard’s knowledgeable and active involvement for the PFS. This group built on the thinking of our original Professionalism Group which had met in the second half of 2008, following an extensive period of consultation with the industry. It has helped us to finalise proposals in four areas, which I will cover in turn: qualifications, the professional standards board or “PSB” as I will refer to it, ethics and CPD. I will also focus in on the industry response to some of these as I go along.
What are we proposing?
- We will raise the minimum exam standard to QCF level four, or equivalent
- We will consult in the fourth quarter of this year on whether we should create a PSB as a separate statutory entity, independent of the FSA, or as an advisory body within the FSA;
- The PSB would set, monitor and enforce over-arching, consistent standards in qualifications, CPD and ethics
I will start with qualifications. We have always recognised that qualifications alone are not the solution, but we believe that increasing core knowledge levels is a vital element. Consequently, we have asked the FSSC to consult on increasing the benchmark examination standard to the equivalent of QCF level four, and this will apply equally to new and existing advisers. In other words, there will be no grandfathering. This was not an easy decision, but on balance we decided that consumer confidence and the reputation of industry would be best served by a step change in core knowledge levels for all practitioners.
For existing advisers, the deadline for this change is the end of 2012. We know that this presents a demanding challenge, but if, like me, you read some of the coverage of the recent RDR CP in the national newspapers, you will have seen that the outside world is keen for us to maintain the momentum of the change. I also note the impressive uptake in examination activity since the RDR began, which shows a willingness among advisers to make the step change.
There has of course been much debate about what "level 4" means - how broad will the future qualification be, and what will it cover? We have set out in our Qualifications Update the expected core content for the new benchmark, but the rest is very much for the FSSC to specify, and its work is well under way. I would urge you to engage fully with the FSSC’s consultation events - no qualification will ever be a perfect match to a job role, but your involvement will help to make it as relevant as possible.
Naturally, this work takes time, while the end-2012 deadline draws closer. It is clearly sensible to act now. But what should advisers do, given that the new benchmark qualifications will not be available until next year? To address this problem, we set out our “no regrets” policy, which allows advisers to make use of existing level four qualifications in the meantime. Any gaps between the content of these qualifications and the future benchmark will be filled using CPD, not further exams.
To help advisers understand what CPD top up might look like, we published our current thoughts on what a CPD regime should encompass under a Professional Standards Board. CPD top up will be a combination of the new CPD requirements and the new qualifications. The precise content of the new qualifications will depend of course on the outcome of the FSSC’s wide-ranging consultation. We expect top up CPD to be structured CPD.
So if you want to reduce the amount of CPD top up you need to do then you should look at our qualifications statement to see the expected core content for the new exams and choose courses of study which are as close to the future requirements as possible. There is no mystery to selecting qualifications – it is simply a case ensuring study is relevant to the role being performed, in much the same way as you do under T&C now.
If individuals do not achieve the higher qualification by the deadline, then while there will be a full and fair process to consider genuine extenuating circumstances, there will be no provision for individuals to be supervised or to become some other type of adviser. They will need to stop advising until the qualification requirement is met.
At this point, I will touch on what we have said about professionalism requirements for guided sales processes, as I expect this could be a subject of discussion today. In the CP we suggest that all advised processes, including guided sales, should be subject to the same standards, including the qualification level. This has raised some comment, with some firms concerned that it may prevent the development of simplified models, whereas others think that it is right that we maintain a level playing field for everyone who gives investment advice.
What we must avoid is the risk of undermining the step change in professional standards and thereby confusing consumers. Is it really sensible to on the one hand aspire to the creation of a truly professional financial services advisory community and at the same time allow advisers who do not meet these requirements? We think that the arguments thus far advanced against a uniform core standard of competence are not convincing. However, as we say in the CP, we will continue to work with firms that have developed models, and as ever welcome responses to this important question in the CP.
As I have said, we know that for some people making the qualification step change presents a very significant challenge. For this reason, to help with the transition of existing advisers, we have for some time been considering the possibility of an alternative to written examinations. With the help of our Advisory Group, we explored the options. It is clear that it would be discriminatory to restrict this alternative to advisers with a certain level of experience. Given that fact, our Advisory Group agreed that to be credible and demonstrate a step change, any alternative assessment must present a challenge equivalent to the written exam, albeit in different form. It is therefore likely to simply be an oral version of the existing industry qualifications, offered by the relevant awarding organisations as a transitional provision only until the end of 2012 and open only to advisers practising at 30 June 2009.
There has been, I know, concern among those who have already reached the higher standard that this represents a watering down of our “no grandfathering” policy. Let me be very clear that this is not the case. We have considered very carefully how to ensure that the oral version is as demanding as the written, and are confident that with the oversight from a separate qualifications regulator the right structure is in place to do this.
I mentioned earlier a professional standards board, and as I said earlier, we will consult in the final quarter of this year on creating a PSB as a separate statutory entity, independent of the FSA, or as an advisory body within the FSA structure. We had originally planned to establish the body as part of the FSA, to consider after several years experience whether it should be launched as an independent body. Our change of plan would accelerate implementation and be consistent with the end-2012 timetable of the wider RDR, and with maintaining momentum.
But what is the role of a PSB? We are responding here to the industry’s acknowledgment that standards of competence can be highly variable. Consequently, its role would be to implement higher and consistent standards for qualifications, ethics and CPD. There is obviously much to consider here on how the PSB would interact with the FSA, with the professional bodies, and with individual advisers. We are considering these issues with the Advisory Group, and will set them out in a Consultation Paper. The paper will also be an opportunity for us to set out an estimate of what the costs and benefits would be - we are clear that it must provide tangible benefit to the industry. We welcome your response to that paper once published.
It is important to remember that during their career, most people will spend more time maintaining their knowledge than they will achieving further qualifications. This is why we believe that CPD is just as important as qualifications. What we want here is a consistent overarching standard that can be interpreted by firms and professional bodies to apply it effectively to their employees and members. It should cater for different learning preferences and must be relevant to the person’s role and learning needs.
As I said a moment ago, the PSB will, once established, develop and consult on a standard for CPD. In the meantime we have set out in the CP an outline of what CPD might look like. You may have noted that we suggest a minimum of 35 hours CPD activity per year, but this is only one measure amongst many. The outcome of the activity – maintaining and improving competence - is the critical point.
Finally under professionalism, I would like to mention ethical standards. Our view is that consistent and visibly-enforced ethical standards are an essential element in improving consumer outcomes. They are also a driver of the public’s perception of the industry, tying in to our objective to build greater trust and confidence.
As with CPD, the overarching Code of Ethics would be for the PSB to develop and consult on, but it would build on the code set out in our November Feedback Statement, and updated in last month’s CP. We anticipate that the professional bodies would incorporate the new code into their own standards for their members, but that they would be free to supplement the core code as appropriate for their members and the sector.
Supervision and enforcement of these ethical standards will be covered in the consultation on the PSB later this year, but in brief, we would seek to link the code to the sections of the FSA rulebook which prescribe standards for the behaviour and standing of individuals. As such, it would be an amplification of standards of conduct we already expect of advisers, with renewed emphasis.
So, summing up on professional standards, I have covered the four key areas of our proposals here – qualifications, the PSB, CPD and ethics. I ask you again to play a full part in the next steps by engaging in the FSSC process, and by responding to the current CP and the CP on the PSB later this year. I also encourage you to take advantage of the no regrets provision described earlier. Let us start the process which will allow us to look back in 10 years time, recognising the time we have invested in the profession, helping to give a new sense of pride and responsibility across the industry.
Other considerations
Before I finish, there are two other areas I would like to touch on. First, I would like to mention the analysis we are conducting on whether any of our RDR proposals should be applied to general insurance products.
In our Consultation Paper, we have identified a risk that introducing Adviser Charging for investment products may lead advisers to focus on protection, where they might still earn commission. Some of the reported reactions to this analysis seem to suggest that it is difficult to mis-sell protection products at all and that no serious consumer detriment can arise - presumably on the basis that if some people have the wrong policy or too much cover that’s no big deal. We’re alarmed by the apparent complacency in some quarters. Consumers rely on their advisers to help them make the right choices about protection and it is unacceptable to recommend to a customer a policy or level of cover that they don’t need. The prevalence of such attitudes would only confirm to us that we need to review our approach. We are not jumping, however, to any conclusions about applying RDR proposals to protection. We understand that there are real differences between the different markets. We will consider whether elements of the RDR proposals would be appropriate, and publish the results of our analysis early next year.
In the read-across context it is also worth mentioning that our wide-ranging mortgage market review is also considering the case for read-across of RDR elements to that market. Our analysis, which is comprehensive and proceeding from first principles, should give us a firm basis for making that assessment.
Another point I wanted to highlight is that we are proposing changes to our inducements rules. In particular, we have brought forward new guidance to reinforce our approach to non-monetary benefits. We make clear that any significant benefits that product providers offer to adviser firms – like access to training programmes – should be widely available if they are to be provided at all, rather than being used to reward particular firms. And, similarly, we highlight that adviser firms should not generally allow themselves to become reliant on benefits from provider firms; for example they should avoid relying on free provision of important software.
Clearly, there are many other areas of the RDR I could talk about today, but for now I will confine myself to urging you to read the remainder of the detail for yourselves, and to respond to us before the end of October. Thank you very much for your kind attention.