Adviser View: Tackling The Post-RDR Landscape

[This article was first published in the December 2015 issue of ETF Report UK]

In 2003 chartered financial planner Minesh Patel jumped at the opportunity to buy a small IFA practice. Fast forward to 2015: Many changes have taken place. After the Retail Distribution Review (RDR) he said he moved with the times and transformed the business, adopting new investment strategies, going more "mainstream" and developing a new focus on his clients. One recent change includes adopting passive investments.

Patel has more than a decade of experience in the financial world, including working as an account manager at Friends Provident and Scottish Amicable (Prudential). Over the years he maintained many relationships from those former jobs and still deals with business owners who are at or near retirement as well as the siblings or children of those owners. The majority of EA Financial Solutions' client base is in North London and Finchley; he describes his typical client as "fairly affluent" with a strong connection to his practice.

Keeping An Open Mind

"The business has very much mushroomed from that type of client profile and currently has £60 million assets under management. I have decided to have a practice now, which is more mainstream with the emphasis on people," said Patel.

He explained that by only opening your door to high net worth individuals (HNWIs) you are then potentially eliminating other clients who might become HNWIs in the future.

For example, "someone who perhaps earns around £120,000 between husband and wife doesn't have much at the moment because they're paying a mortgage, they're paying school fees and all these costs. I take a view that if the client presents an interesting scenario then it is worthwhile for me [to pursue]."

Patel also volunteers at the Citizens Advice Bureau once a week to provide financial advice to people who may not have the capacity or means to pay but have some financial issue they need help with.

The RDR World Brought Change

One major change amongst the financial adviser community is the RDR, which came into force in January 2013. The new regulations banned commissions and require a higher level of qualifications, both which have pushed many advisers out of the market.

"The initial RDR process for us was very smooth. But from 2015 we have experienced more challenges from clients in terms of whether the fees we charge them are justifiable for the work they require. Some have decided they would actually like to do the work themselves, which is a natural evolution of the charges structure," said Patel.

Passive Vs. Active

In the last year Patel has started investing in exchange traded funds. He explained that for many years he had been a huge fan of passive investing, but employed capital in other ways, including with third party model portfolios. Patel has currently allocated around 8% of client money to passive investments.

"The reason I believe in passive management is, No. 1, the transparency of the process," he said. "Everybody would agree markets go up and down. What I like about the passive approach is the transparency and dialogue you can have with clients. If you take a long-term view you're going to do well because the fees are lower and you know there is less market intervention and less capacity for human error."

Costs Are Crucial

Patel highlighted the issues that concern him about active management.

"The thing with active management is they're [fund managers] making calls that could prove right or wrong and they can be incorrect. Even star managers often get things wrong," he said.

"However, that is not to say I've discounted active management. Where I do use active management is generally with a discretionary fund manager because being too passive in your approach can alienate clients as they have a belief that you are not active enough as an IFA."

The majority of the firm's assets are on advisory platforms Transact, Alliance Trust and Aviva, which Patel said "have extremely good pricing."

How Patel Uses ETFs

Patel is currently using equity ETFs tracking the FTSE 100, the FTSE All Share, the S&P 500 and the Dow Jones Index.

"I like the physical ETFs. I like the easier explanation that fall with physical ETFs as opposed to synthetic ETFs, which I accept are prone to less tracking error," said Patel. "In a conversation with my clients I want them to be able to understand the whole process."

When it comes to understanding passives Patel said ETFs are easier to explain to clients as these funds simply track an index.

Patel added: "With active [funds] you have to explain why you selected the fund manager, what their credentials are, what their approach is to small caps and to large caps, what the maximum exposure is to equities or bonds. There is a much deeper explanation which is required and also you have to justify higher fees. Is the client paying 1.5% or 1.3% for active management?"

Pricing is another major factor in the attraction for turning to passive investment. "In terms of pricing it is quite clear costs have come down for ETFs—I welcome that," said Patel.

Considering Smart Beta

Patel also highlighted the emergence of smart beta ETFs as an interesting new area of the market. Such products are essentially funds that are not weighted by market capitalisation and may instead focus on risk factors like size and value, or that even weight all index constituents in equal proportions.

"They [smart beta products] used to be very much institutional-investor-driven vehicles but they have come now to the consumer space, which I welcome," he noted.

Patel said that while market cap vanilla ETFs are useful to track indices in bull markets, smart beta ETFs may prove useful to drive returns during flatter periods within equity market performance.

"What we saw between 2008 and 2014 was pretty much upward growth, right across all equity and bond markets. Now I think smart beta will be interesting," he said.