What should we expect from our financial advisers?

Every year, roughly 4m of us seek financial advice. In search of support for pension planning, inheritance management or investment savings, we turn to one of the UK’s 28,000 financial advisers, most of whom work in small, regional firms. And - after an initial consultation which captures a full picture of our finances - our portfolios are added to the estimated £300bn in assets currently being looked after by financial advisers.  

For those pondering the value of financial advice, it is useful to know what the process entails. 

The first step is seeking out an adviser. The internet is awash with firms that can point you in the direction of a local partner, but it’s safer to use an accredited adviser directory or the Chartered Institute of Securities and Investment online tool. Always check the adviser’s qualifications and that they are FCA authorised. Today, many advisers use complex software to compute a retirement or savings plan. Your portfolio is transferred to the adviser’s chosen wrap platform - a company they normally have an arrangement with. The adviser then picks assets on your behalf. 

Advisers charge fees in different ways. Some will charge a fixed fee, others an hourly fee. Many charge an ongoing fee on the assets under management, which can eat into returns, and can be problematic. 

Take Eric, who receives an income of £200,000 annually from his engineering firm via a mixture of salary and dividends. He has a total portfolio of £6.5m, including the value of his business, a few properties with mortgages and £850,000 of investments, in an Isa and a Sipp. He sought the help of a local financial adviser to create a plan for retirement.

The following table shows how Eric could pay over £500,000 in ongoing fees for financial advice, wrap platform costs and fund fees over the next 20 years and the extent to which those fees could eat into returns.

A cash generative business model

For the last 50 years, much of the adviser industry (and indeed, the wider financial services sector) has enjoyed a model which the rest of the world is now seeking to replicate: ongoing subscription. 

Reliable, regular revenue which costs almost nothing to maintain is very cash generative. As shown by the financial results of the UK’s largest financial advice firm St James’s Place. 

Source: FactSet 

But what’s good for these firms is not necessarily good for the client. True, some of us seek financial advice because we want ongoing support for a big and complex portfolio. But the vast majority don’t need it. Indeed, some financial advisers, especially from larger firms, invest money on behalf of their clients and then leave it be. That isn’t a problem for performance - most long-term investments do better when they are left alone - but it is a problem if the adviser continues to take a significant fee from a portfolio which they are not doing any work for. 

Even worse, some advisers move their clients’ money in and out of funds simply to satisfy the annual requirement to ‘do something’. This may have a detrimental effect on performance as well as adding to fees. 

Technological advances aren’t fixing the problem

In the last decade technology has attempted to upend the industry. Many of the so-called robo-advisers claim they are helping solve the decades-old problem of hefty financial services fees. And it is true that most robo-advisers charge less than their real-life counterparts. 

But undercutting prices is not fixing the problem. If financial advisers aren’t working hard enough to earn their ongoing fee, robo-advisers definitely aren’t. With these normally app-based platforms your money is transferred into a generic portfolio of funds, bonds and cash, weighted according to your own perception of risk. And that portfolio could be woefully poorly constructed. 

Take Amber, a 28-year-old marketing executive with £10,000 of savings and no experience of investing. She signed up to Wealthify and described herself as cautious. She was then charged an ongoing fee 0.76 per cent for a portfolio which constituted 78 per cent Vanguard bond ETFs (which can be bought directly from Vanguard for a 0.1 per cent fee). Only 13 per cent of the portfolio was in equities. 

The chart below shows the anticipated return, based on Wealthify’s projections and fees, compared to the same investment in an S&P 500 tracker fund (average fee 0.02 per cent) which grows at the relatively conservative pace of 3 per cent a year.

Wealthify - which is owned by Aviva and now employs over 40 members of staff, only three of whom are responsible for picking investments - is far from alone in this behaviour. Nutmeg, Moneyfarm, Wealthfront and a host more employ the same tech-based model to attract young investors with small portfolios, who probably only need a simple nudge in the direction of a cheap online platform and some ETFs.

And talking of ETFs, Vanguard - the pioneer of passive investing - recently entered the advisory space with a ‘low-cost’ service capped at 0.79 per cent and only available to clients with over £50,000 in their portfolio. 

The venture should perhaps be applauded for transparency - fees are clearly defined and consistent and clients are told exactly what service they will receive for their money (not a lot if you have less than £100,000). But it still isn’t solving the problem of ongoing fees. 

Surely, the best advice a Vanguard adviser could give to a client with £50,000 is to transfer it all to one of its Life Strategy funds, which charge 0.13 per cent and invest your money in the right mix of equities and bonds. The chart below shows just how much this would contribute to returns over 20 years, compared to sticking with the advisor service. 

What are your options? 

Helen was 80 when she inherited her husband’s £1.5m investment portfolio, most of which he managed himself, investing in mainly small, British companies. Her husband’s portfolio was largely held in an Isa and invested via a DIY stock broking firm. 

For Helen, financial advice is necessary. This is a large portfolio and she has no experience of managing her own investments, or any desire to dedicate the amount of time needed for effective stock picking. 

If she chooses an ongoing-fee adviser, after an upfront fee to manage the inheritance tax, portfolio management and general planning, the adviser will most likely transfer the entire remaining portfolio into their own books. They might invest a large chunk in actively managed funds or perhaps seek a discretionary manager to invest in inheritance tax exempt stocks - after all, Helen is an elderly lady. But after the initial management the adviser may not need to do much work on the portfolio again. 

And therein lies the problem: Helen will continue to pay for ‘advice’ on her portfolio for the rest of her life. Advice that she no longer needs - she is unlikely to inherit any more, she won’t be getting divorced, her pension is taken care of. 

While the idea of paying fees upfront might cause consternation for those seeking advice, anyone opting for an advice as a service model should consider whether paying by the hour would cost them far less over a lifetime.  

When 4.5m people sought financial advice in 2019, the FCA was worried that the number was too low. Encouraging some IFAs to change their payment structure would surely help more people seek advice.