1. What is PROD?

The Product Intervention and Product Governance Sourcebook (PROD) was quietly introduced with MiFID II in January 2018.

These rules require advisers to evaluate each component in the value chain to ensure the cost and service is appropriate for the intended client segment. The product or proposition that is recommended to each client segment must deliver appropriate outcomes. A key objective of PROD is to improve firms’ product oversight and governance processes, ensuring the systems and controls firms have in place to design, market and manage products are robust and meet legal and regulatory requirements.

Back in October, RoryPercival a former technical specialist at the Financial ConductAuthority (FCA) who now runs a training and consultancy business, estimated that fewer than 1% of financial advice firms are complying with the PROD rules.

2. Where does a CIP fit?

According to research[1] more than 90% of adviser firms now offer a Centralised Investment Proposition and of those who offer a CIP then more than 80% of new money flows into this. However, the investment solution which is offered to clients should be broad enough to cover a range of clients to ensure individual client suitability. Breadth could be in the shape of various investment strategies such as active, passive, absolute return, income and the solution can be packaged for clients in a number of ways e.g. funds, model portfolios on platforms, bespoke portfolios.   

3. What are the challenges?

Client segmentation is the starting point to ensuring compliance with PROD – and it’s important to remember that complying with PRODis a regulatory obligation. Over the years, client segmentation has become more sophisticated and not just based on investable assets. Although many advisers still base their fee model and proposition on asset size, if this is the only measure the FCA will view that as too firm centric. Whilst still a factor, life stages and the varying requirements throughout these stages, should be taken into consideration.

One of the key concerns the regulator had when reviewing centralised investment propositions and their application in the market was that of ‘shoe horning’. This was a termed coined by the FCA in their 2012 paper on Centralised Investment Processes whereby they raised a concern that clients were put into a ‘one size fits all’ investment solutions.

Recent research from FE[2] indicated that 31% of advisers intend to put nearly all (90%) of their clients’ investments in a single investment proposition which points to not only concentration risk but also potential ‘shoe-horning’. PROD provides advisers the framework to consider their advice process, ensuring value for money foreach element (advice, investment solution, asset management and product/platform) is assessed and the adviser is able to demonstrate a truly client-centric offering.

4. What breadth should be offered?

Many advisers use model portfolio services on platforms and often this investment proposition has a limited number of portfolios available.If mapped to a risk profiling tool where the output stretches from one to ten, the model portfolios often cover risk ratings 3 to 7 and perhaps also include an income producing option. This covers the risk profile of the majority of clients. However, is this too narrow? It feels unlikely that all clients within an adviser business can simply fit into one of five options.

5. So is there a solution to this?

PortfolioMetrix firmly believes that having a CIP in place in an adviser business is a good thing and can help to maximise growth in an adviser business and the firm’s previous posts explain this.

The PortfolioMetrix WealthExplorerTM technology firstly helps the adviser with the ‘Know your client’ process where a psychometric approach delivers a process allowing the adviser to identify the following:

» Aversion to losses plotted against client attraction to gains

» Attitude and emotional responses to market volatility and how this relates to the risk of untimely intervention

» Preferences towards active fund management vs more cost effective passive implementations

» Their ability and willingness to take risk

Additional integrated functionality enables advisers to:

» Assess client’s capacity for loss

» Properly capture and align client’s goals and aspirations with targeted outcomes

» Help clients to understand the investment process better

Based on this, the process then enables the adviser to deliver investment solutions customised to provide better risk-aligned results.Using the WealthExplorerTM technology the adviser can fine-tune the investment options for example an active/passive tilt, customise the asset classes used and select from a range of approaches as below. In this way it is possible to deliver a portfolio tailored to an individual client’s circumstances and which can be further adapted at review to continue to meet a client’s changing needs throughout their life stages, regardless of asset size.

This truly is a multi-dimensional approach to portfolio construction.

Not only does the proposition eliminate ‘shoe-horning’ and consistency issues but also does this at a competitive cost for the client and helps the financial adviser to comply with PROD.

[1] Never Mind the Quality, feel the width 3; CWC/The Lang Cat, 2017 

[2] Adviser Business Models, what lies beneath; FE, 2018

This article was created for the DISCUS website. You can access more information about WealthExplorerTM and the other services available from PortfolioMetrix on their dedicated page on the DISCUS website.