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This article reflects on the unintended consequence of legislation on advisers. Instead of creating more independent advisers, it seems to be chasing them into tied distribution models.

The Retail Distribution Review (RDR for short) came into effect in the UK on 1 January 2013. It is targeted at financial advice – specifically aiming to create a set of principles that ensure advice is delivered in a fair, unbiased and competent way. The main principles are the following:

1. There are two types of adviser – independent or restricted (biased/tied). The business needs to choose which category it wants to fall into (although a business can do both, perhaps to different client segments).
2. An Independent Adviser will need to research the entire market to cover their client’s needs. A Restricted Adviser can limit the products they review or advise on. In the case of the former, the risk is an independent adviser dispenses advise which is subsequently found to be ill informed – hence the need to cover the market.
3. A minimum education level. Exams are taken.
4. Commission paid by product providers is banned. This eliminates fee loads by product providers (upfront and ongoing). Bundled asset management fee payments (say to a platform) will be banned. We suspect that the rebates by asset managers to platforms will be banned by April 2014.
5. Product providers can facilitate the payment of advice fees where it is driven by the client. An example would be the selling of units by a product provider to pay an adviser, where such a sale was authorised by and driven by the client.
6. Commission payments from legacy business will be allowed (pre January 2013).
7. Clear documentation on fees and the firm’s principles on how they charge will be needed. The main point is that clients need to know (or should know) what their fees will be and to what services they apply.
8. Fee charging cannot be influenced by product providers – the fee must be established between the adviser and client. As in the previous point, clients must be fully aware of costs before they proceed with the advice.
9. Ongoing service levels need to be agreed. As per the previous 2 points, ongoing fees imply an ongoing service and fees cannot be charged when a service is not being delivered.

Main impacts:

1. Small clients are no longer cost effective to service. They will end up in a tied distribution world, in our view.
2. Number of advisers drops because the barriers to re-entry post RDR are too high for some. Equally existing advisers may roll up their business because of onerous requirements.
3. It helps passive because fee bundling is not allowed. Clean fees only.

What is our main concern?

St James’s Place, an aquirer and host of IFA businesses saw impressive growth in Quarter 4 of 2012. New business was up over 45%, quarter on quarter from 2011 to 2012 (£106.9 million in new investment business over the last quarter). SJP is a wonderful business. It allows independent financial advisers to join them and become a tied sales force for the SJP products. This may sound more favourable to shareholders of SJP than the underlying clients, but there are a few interesting aspects that may alter this view:

1. They have independent managers and manager selection. They simply offer the product wrapper.
2. They have a very high underlying client retention rate, over 95% as we understand it.
3. They interrogate and monitor the advice their underlying advisers give. They have high advice standards and this must be good for the client.
4. They offer advisers an opportunity to sell their practice to other partners inside the group. Lloyds, the major shareholder, no doubt helps with the finance of this. This creates a very happy financial adviser who is encouraged to build a strong, long term practice.

So, how does this tie back to the RDR? We think that the regulator is trying to target tied (or biased) distribution by making advice as objective and informed as possible. In theory – and in our view – this would mean that a business like SJP would potentially lose advisers to a more independent model. Yet, the opposite seems to have happened in the build up to the RDR. We think it’s an unintended consequence: imposing structured rules on advice and fees has pushed many advisers into the tied distribution model, thereby reducing the number of true independent advisers. Regulation seems – initially – to have had an adverse effect on the number of independent advisers.