Each month, in an exclusive survey with Incisive Research, RealAdviser canvasses a broad panel of advisers on a wide range of different topics. This time we have asked advisers for their views on the changing world of investment selection. After a series of investment scandals, advisers are increasingly looking to third parties for help with investment selection. We asked advisers to name their favoured route for investment selection and the advantages and disadvantages of that route. In addition we wanted to know what swayed advisers in terms of selection and whether advisers still saw past performance as the biggest indicator of future returns. We also look at the conundrum of using open-architecture as opposed to a limited selection of funds.
The whole landscape of investment management has changed in recent times. Once the bread and butter of an adviser's role, the growth of wraps, fund panels, multi-manager and other selection tools has meant advisers now need to spend less time researching to select funds. It has meant a subtle shift in the dynamics of fund distribution. An advisers' key decision has in many cases moved from which funds they should pick for their clients to who should they chose to pick their clients' funds.
So what are intermediaries looking for when it comes to selecting funds for their clients? Each method open to advisers has benefits and drawbacks. How is the market developing and have advisers learned from past errors on how to go about choosing these funds?
Although not universally true, some advisers have invested in every over-hyped fund going from commodities to technology to split caps to with-profits. This has helped convince many that from a business risk point of view, they simply cannot afford to select funds themselves. As a result, a raft of life offices, ratings providers and fund analysis tools have emerged to help.
Alan Smith, managing director at Capital Asset Management, says: "Our view is that with 22,000 funds accessible for retail investment, the best possible solution is to outsource your investment. An adviser's time is spread thin as it is, so it is almost impossible to expect any firm to commit to that much research when there are firms whose speciality is looking into these funds and evaluating them.
"We are honest enough to admit we do not have the resources. We cannot compete with entities like Credit Suisse on a research scale, and we believe clients do not value theresearching of funds as much as first thought. They are more interested in the relationship side."
Smith's view tends to be echoed by most intermediaries. The survey asked advisers how they selected funds, with 53% choosing to use either wrap or fund supermarket selection tools. This was followed by 42% using ratings providers and 32% currently using life office selection tools; 37% of those who highlighted wraps or fund supermarket selection tools as their preferred choice now use them for more than 50% of their selection process.
Looking to the past
Smith says that despite previous experience advisers are still driven by past performance: "I regret to say advisers are still using past performance as the key factor in future fund selection. It is not the only thing they look at, but it is an important piece of the puzzle for many of them.
"If you look at fund fact sheets they all say past performance is not indicative of future returns. Advisers should take heed. They need to use portfolio screening facilities to create a shortlist of funds. Then they need to interview the fund managers and find out what they are doing and whether that style blends what you are trying to do with a client's investment. There also needs to be a stronger emphasis on fund research from both a quantitative and qualitative position."
That said, when advisers were asked what criteria their method of fund selection takes into account, 98% said their preferred method took past investment performance into account. Product charges also ranked highly at 92%, as did the financial strength of the provider at 84%.
Richard Vincent, senior fund range marketing manager at Skandia, says: "There are three features that advisers are drawn to: past performance is always a focal point, as is the risk and potential volatility of these funds. Advisers also take heed of the rating of funds by independent groups."
Skandia's wrap and fund supermarket tools were the most widely adopted by intermediaries, with 27% choosing the group as their preferred provider.
Vincent says: "In the past, advisers looked at performance in the back of publications and gauged an opinion off that. We have tried to make this information more readily available, as well as improving the volume and sophistication of it.
"We have tended to analyse risk by rating a fund against both its sector and checking its volatility over a five-year period. These sectors range from something as safe as money markets to something as volatile as emerging markets, and the fund is then ranked from one to 10, where one is high and 10 is low. We can even deduce the volatility of a fund in one sector to that in another."
The report also asked advisers to cite the advantages and disadvantages of each respective method for investment selection. Wrap/fund supermarkets stood out for ease of use, a comprehensive fund range and strong reporting tools, while cost came out as the main disadvantage.
Smith is sure wrap is the best way forward for fund selection. He says: "The argument for using wrap is overwhelming. Why go to a shop that has three loaves of bread when you could go to one that has 300. You're just restricting yourself."
Advisers approved of ratings' providers for their independence, but said the fact they do not cover all funds was a disadvantage. The same objectivity is praised by advisers using their own in-house tools. However, a lack of knowledge compared to the likes of wraps or multi-managers was cited as a disadvantage.
Smith is an advocate of multi-manager. He says: "Multi-manager offers us the extensive research and attention to asset allocation that our clients need. Some will point to the extra layers of cost, but you can now access multi-manager through wraps as easily as direct funds."
He also says using multi-manager funds helps with regulation. "By switching to multi-manager you are diversifying and therefore lowering the risk associated with funds," he explains. "This lowering of risk is reflected by us having our Professional Indemnity Insurance premiums reduced."
Barring the selection of top-performers, advisers felt that mitigating risk was one of the most important factors behind selecting investments for clients.
Bernard Henshall, investment distribution manager at Winterthur, says: "The days are gone when advisers look at funds in isolation. Performance is determined on so many scales, whether it be cumulative, discrete or against their peer group."
Of course, not all groups offer a complete open-architecture proposition. Life companies tend to go down the selected panel route with a certain amount of variables in each sector.
Winterthur Life is one such group. It offers the Tailored Selection, as well as the Elite fund of funds range. The Tailored Selection life and pension range offers access to more than 90 funds, with the view that rather than linking to every fund available, the platform offers access to funds in which the group's investment panel has conviction. The Elite fund of fund range comprises 10 funds, with the ability to add further funds from Tailored Selection.
Henshall says: "We have a five step process to fund research in order to arrive at our options for both the Tailored and Elite range. We start with external research, followed by a proprietary questionnaire, then there is both qualitative and quantitative analysis, and finally a reputation check.
"This is both a declared and documented process that underpins our fund list. It is something we invite people to do due-diligence upon because we believe it offers advisers something to take comfort in."
He believes this process meets all the requirements advisers need when choosing funds. "There are numerous things an adviser wants to be in the know about," says Henshall. "Such as the fund manager's track record, the objective of the fund and how it fits in with a client's needs in terms of asset allocation."
As mentioned earlier, 32% of intermediaries asked currently use life office selection tools, putting them third behind wraps/fund supermarket tools and ratings providers. Advisers saw simplicity and ease of use as the main benefit of using life office tools, while the biggest drawback is the limited fund range.
In terms of back up tools for their panel, Winterthur uses Portfolio Balancer, an online tool that determines the statistical probability of reaching a client's investment goal through stochastic modelling, target asset allocation and a personalised investment balancing strategy.
Winterthur also incorporates Forsyth into their process in order to provide independence from a third party.
Vincent says: "The crux of fund ratings is the fact that they are independent. The likes of Forsyth OBSR and Standard & Poor's provide an objectivity that is rubber stamped."
Smith believes trust is vital when advisers pick these funds. He says: "Advisers gravitate to names they know and like. This is where branding also comes to the fore. They prefer the well-known names, the likes of Anthony Bolton and Neil Woodford, who have been in the market for a while.
"Advisers tend to look for solid performers rather than 'shoot the lights out' funds. Take Skandia's Best Ideas fund. It may be a good story that is unique, but is it what client really wants in the current investment market?"
Vincent adds: "There is a star man culture in the UK retail business. Take a look at New Star, for example, the group's ma rketing budget is immense. It has reached the point where its managers are on billboards across the country and clients know both their names and faces."
However Henshall believes this approach is set to change. He says: "Advisers still hold a UK bias when it comes to fund selection. They trust what is closer to home. But all that is destined to change. The market is becoming increasingly internationalised as there are now more funds and opportunities out there."
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