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Investment Support for Independent Advice: Article 3: IMPLEMENTING YOUR MODEL PORTFOLIOS

Published: December 4, 2014 by Peter Foster, Fundhouse

This is the third article in the model portfolio series. Here we will be discussing the practical implementation of model portfolios and what it means for your practice.



Thus far we’ve taken a look at why model portfolios may be relevant to the advice industry in future, and also considered some of the areas on which to base your decision. Once you reach the point where you’ve identified your service provider and have signed a Service Level Agreement (SLA), its time to consider how to go ahead and implement this service within your practice. The ten sections below each deal with an important area concerning the setup of model portfolios.

1. Determining which model portfolios you need

We come across a wide range of starting points, from advisers who have some form of inhouse investment process which they follow, to others which are relatively unstructured. Both of these starting points can benefit from the implementation of model portfolios. A good starting point is to identify the common need of your clients. Model portfolios represent an investment solution where you can use it to deliver a certain type of return outcome for a certain type of client. Establishing this basic requirement is the first step you need to take. In most cases advisers look for a range of portfolios, from Cautious/Low Risk through to Offshore (in both asset swap and hard currencies). It is also possible to build a portfolio specifically for a certain type of client – such as living annuities – where there is emphasis on certain elements like income generation and capital protection. Importantly the identified investment requirement must be spread across a wide enough range of clients to make the model portfolio viable in terms of size.

2. Capturing the portfolio requirements within an investment guideline

This is a critical step and effectively forms the basis on which your service provider will manage the model portfolios. Areas like target return, risk, time horizon, fund selection, offshore and regulation are all addressed in detail at this stage, so that the ongoing management of the portfolio is in line with what the adviser expects and what the client requires. Each adviser should have a clear set of investment guidelines covering the model portfolio range. This also serves as good governance in terms of managing the advice process.

3. Selecting a LISP/Fund platform

Most, but not all, LISP’s are able to cater to model portfolio requirements. It is a substantial investment to automate the management of model portfolios and is not taken lightly. We see more and more LISP’s investing into more sophisticated model portfolio related services which is positive for advisers and model portfolio service providers. Advisers tend to have a preference for where they want to manage model portfolio’s – starting with their current client base. Often advisers will use this as an opportunity to streamline their investment book, and consolidate onto fewer LISP’s. When considering which LISP to support you should cover:

• technology platform – what functionality they have and importantly what limitations;
• fund range – are you able to access the funds you require?;
• local and offshore – can they run both adequately?;
• reporting – what level of reporting detail are you able to get, and how often?
• Do they cover compliance reporting or any other form of governance on your behalf?

It is a good idea to engage with your preferred LISP platforms in advance of setting up your model portfolios so that they may assist in the transition.

4. Fund Access

A critical part of the model portfolio implementation is having access to the funds you require. A number of platforms currently offer limited architecture fund ranges, meaning that you may not be able to get your preferred funds on the open platform. You will generally be able to access ‘restricted’ funds through your model portfolio service provider on the platform you require, but there may be some additional setup required if these funds are not currently available. Also bear in mind that the fund fees need to be consistent across the various platforms on which you wish to implement – in terms of TCF.

5. Offshore Portfolios

Most LISP’s will be able to manage offshore model portfolios. There are some complexities here which need more detailed planning. Examples of these include multi-currency and weekly fund dealing dates. The biggest issue we see on the offshore funds is limited knowledge of the full range of potential fund options. When using a model portfolio provider you are able to access non-FSB registered funds which presents a great opportunity to add quality funds to a model portfolio for clients requiring offshore investments. Fee levels are often very competitive as well.

6. Reporting

A large benefit of having a model portfolio investment offering is the specific reporting you should receive and which you can use to help service your clients. You should receive a range of reports to cover the full spectrum of needs: factsheets, performance, compliance and anything else which will add value to the adviser-client relationship and at the same time provide the adviser with enough information to ensure that their service provider is doing a good job.

7. FAIS Category 2 mandates

This will be a new requirement for most advice practices. In order to manage model portfolios, each client (the client of the adviser) will need to sign a FAIS compliant, discretionary fund management agreement with the model portfolio provider. This provides the authority to allocate and rebalance the clients fund holdings in line with the model portfolio, on a discretionary basis. Importantly, the model portfolio provider does not have discretion over which model the client is invested in – only to ensure that the client is aligned with the model portfolio. The financial adviser retains all of the Category 1 responsibilities when assisting their client to identify an investment option.

8. Transitioning Clients into model portfolios

Once the FAIS Category 2 mandate is signed, the client is able to use the model portfolios. This takes place through a normal ‘switch’ or ‘new business’ application, whereby the client and their adviser nominate a particular model portfolio on the relevant LISP forms. This form is sent to the LISP as per the normal processes, and the client investments are allocated according to the model portfolio holdings by the LISP. From this point on the model portfolio service provider is able to align the client holdings with the model portfolio, as well as being able to change the model portfolio (for example a fund change, or % holding change), and realign all clients simultaneously. This is usually done in conjunction with the financial adviser to ensure that the final result is what is expected.

9. Ongoing Review

As a general principle, all model portfolios and the underlying client holdings should be reviewed continuously. This is a requirement of FAIS, and also ensures that any problems are picked up quickly and rectified before they have an impact on the client. Advisers should also receive regular updates of clients they have transitioned onto the models so that they can ensure that all clients have been allocated correctly. In conjunction with the model portfolio provider, any potential rebalancing switches or fund changes may be identified and agreed on this basis.

10. Fees

Fees are calculated in much the same way as advice trail fees. The LISP will load the applicable fee rate for the model portfolio provider, and then cancel units to pay this fee on a monthly basis. This fee is paid directly to the provider, reducing the administrative burden on the financial adviser. This is agreed by the client as part of the discretionary mandate.

In Conclusion

This series of articles has stepped through the world of model portfolios at a high level, to help provide the context and practical information to help advisers make an informed decision. In practice we see a trend towards the advice industry professionalising, and as with most industries there comes a point where specialisation and outsourcing of services starts to become mainstream. In some respects this is happening in the SA advice industry already, as evidenced by the growing range of model portfolio service options. The recent RDR proposals will also start to make model portfolio services an appealing option, particularly due to the apparent aversion to white label, adviser managed unit trusts and the emphasis on TCF.
Please contact us should you have specific queries regarding model portfolios and the related decisions you need to make when going this route.