The Royal Commission (RC) into Misconduct in the Banking, Superannuation and Financial Services Industry concluded a couple of weeks ago, and it certainly has dominated the media over the last year. Much has been written, and hours of opinion and analysis have been dedicated to the associated scandals.

Our comments below are therefore intended to be succinct:

1. What conclusions can one draw?
2. What next?
3. Will you benefit?
4. Who loses?
5. Problem solved?
6. Impact on Horizon Wealth?

1. What conclusions can one draw?

  • Short-termism is King; you get what you Measure.
    • Quarterly Investor Earnings Expectations;
    • Pressure on the Board;
    • Pressure on the CEO;
    • Pressure on the Senior Executives;
    • Maximisation of Sales and Revenue or Profits before People (NAB CEO – 19 December 2018);
    • Minimisation of Costs including appropriate provisions which resulted in a reduction of client refunds for “no or poor advice”.
  • Sales is to Advice as Oil is to Water;
    • Conflicts of interest have been rife throughout the financial services industry;
      • The control of product development, distribution, and client servicing is completely inappropriate for complex products where suitability is dependent upon the customer’s individual requirements.
      • The “Bankassurance” model is dead.
    • Complex product suppliers have a substantial information advantage over consumers in terms of financial concepts, opaque pricing, consequences, control of benefits and legalese.
    • It is impossible to faithfully deliver a fiduciary responsibility wearing two hats – that of trustee, and that of supplier representative.
    • Personal financial product advice is not scalable (not until genuine Artificial Intelligence is available):
      • Information gathering is time consuming, the decision matrix complex, the compliance regime challenging, and the consequences to the consumer associated with the product and the advice provided extend well beyond the point of sale – often for decades after purchase.
      • The value to the client (long-term outcomes) lies in the Advice NOT the Product. The value to the supplier (immediate profit on sale) lies in the Product NOT the Advice.
    • Cheap unqualified sales staff do not substitute for expensive qualified advisers.
  • Self-Regulation is over:
    • “Mr Abbott’s 2014 Budget saw funding allocated to the Australian Securities and Investments Commission (ASIC) reduced by $120 million over four years, saying the onus was on the industry to self-regulate” (2GB Interview with Tony Abbott 2 May 2018).
    • Regulators were deprived of resources as above, followed up by a further $28m cut in ASIC’s budget in May 2018.
    • Large companies disrespected Regulators, who were too close too, or intimidated by the power of the company’s themselves, or their leadership.
    • Boards may not have been appropriately constituted, with inadequate diversity of skills and experience, a reliance on ‘old boys’ networks and resultant group-think.
  • The existing Compliance and Regulatory environment has rendered financial advice unaffordable for the retail client, and an uncommercial business proposition for the large concern.
  • The social compact– Trust in Financial Services – has evaporated.

2. What next?

  • Banks exit retail advice business –3 of the Big 4 banks and AMP have sold their life insurance businesses. Divestiture of superannuation, platform and funds management businesses is under way. Westpac holding the line with BT – but will most likely capitulate.
  • Assertive, zealous Regulators – Embedded Regulatory Officers have already been announced; Audits will be extended – with low tolerance of error or omission; Form over Substance will prevail; high-profile Enforcement Actions will be pursued as a warning.
  • More regulation – an unfortunate consequence – as all that has really been required is better enforcement of existing regulation.
  • Reconstituted Boards – reflecting greater diversity of skills, and broader stakeholder representation.
  • Revised remuneration structures – attempting to align customer interests with short term profit growth.
  • Advice as a profession – with qualifications, experience and ethics of advisers at its core.
  • Commissions banned – even where they can be aligned to client best interests.

3. Will you benefit?

  • Yes:
    • Improved quality of advice and ethics;
    • Possibly less complex product disclosure documents;
    • Improved alignment between product provider and customer interests;
    • “Fairer treatment” in the event of disputes.
  • No:
    • Longer Advice Documents – Statements and Records of Advice. As advisers seek to evidence compliance with regulation through the Form of the document. Advisers cannot rely on the Substance of the advice being in line with the spirit of the regulation.
    • Increased direct and upfront costs – particularly associated with:
      • Products currently associated with commission payments – Life and General Insurance, and Mortgages; and
      • Increased Adviser compliance costs.
    • No product cost benefits / increased prices to Clients – Insurance Companies and Product Providers will take the costs saved from the abolition of commissions to the bottom line – rather than reduce costs to clients. They will have to increase pricing of some products as cross subsidisation of products is eliminated.
    • Less flexibility and innovation – As advisers face regulatory uncertainty and assertive, initially over-zealous regulators;
    • Less choice – The number of life insurance companies has decreased from approximately 8 main players to 4 – AIA, Zurich, TAL, MLC – with AMP, Comminsure, Macquarie, Onepath (ANZ) and others having already exited.
    • No change to shareholder profit-growth expectations.

4. Who loses?

  • Retail Clients – unable to afford the increased costs of advice referred to above, compounded by a developing shortage of advisers.
  • The “advice reservoir” of Australia will decline dramatically both in the short and long term:
    • The exit of ethical, excellent advisers; as well as unethical, poor advisers – Those unable to meet the straight-jacket educational and entry exam requirements imposed by the new Financial Adviser Standards and Ethics Authority (FASEA). It is estimated that up to 40% of registered advisers will leave the industry (profession) by December 2020.
    • Barriers to entry for new Advisers:
      • Middle-age degree-qualified “career-transitioners”, who might have moved from their foundational career – but are now faced with a requirement for a new degree and a professional year (low pay);
      • New, young academically qualified entrants – as clients reject their youth in preference for experienced advice – academic and life experience.
  • Clients of exiting advisers – who will have to find a new adviser– if they can afford it and / or are prepared to pay.

5. Problem Solved?

  • Partially – Many of the issues which have led to the failures in the industry may be addressed by the RC, when it makes its final recommendations.
  • However, we have the following concerns:
    • Compliance Costs and Adviser shortages will exclude the vast majority of Australians from access to affordable advice;
    • Under-Insurance and uninformed product selection will skyrocket;
    • Competition will be stifled.
    • Significant conflicts of interests remain – Any one stop advice business – offering a combination of: Accounting, Tax, Strategic Financial Planning and Financial Product Advice, “Fund Management” (SMA’s / MDA’s), SMSF Establishment and Administration, Life and General Insurance, Mortgage Broking and Real Estate Broking – with demanding shareholders, requiring strong annual growth in earnings, will want to ‘clip the client’s ticket’ across as many products as possible.
    • Ethics cannot be legislated.

6. Impact on Horizon Wealth?

  •  FASEA Exams
    • Even with:
      • Undergraduate commerce, and postgraduate accounting degrees;
      • Having passed the Institute of Chartered Accountants’ rigorous Board Exam;
      • 3 years of professional traineeship;
      • Being bound for 30 years by the Chartered Accountants Code of Ethics – without client complaint;
      • Australian Tax, Law and Financial Planning Diploma’s, Graduate Diplomas and CFP (Certified Financial Planner – Brian) – from reputable education providers;
      • Membership of the Australian Tax Practitioners Board;
      • Fulfilling CPD requirements for the Institute of Chartered Accountants, the Financial Planning Association and the Tax Practitioners Board for many years; and
      • 25 years of executive leadership in Private Banking, investment banking, risk management, and between 6 and 14 years of advising private clients:
    • We will be required to pass the FASEA entrance exam by January 2021, in order to continue to practice in the industry.
  • Our sense of purpose, long-term orientation, target market of high-net-worth and high-income individuals, and business specialisation (avoiding the ‘one-stop shop’ business model) has stood our clients in good stead for years. We see no change to our approach.
  • We do expect compliance costs to increase significantly – offset by our continual and ongoing investment in IT and operational efficiencies.
  • With changes to the legislative environment associated with a likely Labour Government – we expect an elevation in the demand for advice.
  • We anticipate less competition.

We therefore remain confident in our ability to provide our clients with appropriate solutions on their Road to Wealth.