The financial planning process

By Chris Robinson | 1 May 2015

What’s the difference between financial planning and wealth management?

Does it matter, and does anyone care?

Interestingly, the FCA handbook includes neither phrase in their glossary of terms although both are widely used in the industry to mean similar but different things.  Rather than get into a semantic argument let me explain two different concepts that the labels might be appropriate shorthand for.

The Institute of Financial Planning (the UK body that has as its mission ‘… to build and maintain the Financial Planning profession for the benefit of consumers in the UK’) defines ‘financial planning’ as a six step process as you can see in the graphic below. 

My summary is Financial Planning is that suite of tools and processes by which a financial planner helps private clients articulate then meet their (life) long term financially relevant goals and aspirations. 

The Wealth Management Association (WMA) is a representative trade body for firms active in the private client investment community.  They don’t have a definition for wealth management assuming, presumably, that it is self-evident for anyone working in it but their Chairman in the most recent annual report writes…..

“Unlike the fund management industry, at the heart of a wealth manager’s business is the long term client relationship with the individual investor; this is true whether the relationship is full discretionary management, advisory or execution only. What is perhaps not always fully appreciated by the outside world – and at times I fear this may include Regulators – is that the successful business model of a wealth manager requires that stewardship to be responsible and fair.”

My summary of ‘Wealth Management’ is processes and structures that enable private clients to achieve their desired investment objectives taking risk and reality into account.

So ‘financial planners’ help private clients work out a realistic financial plan then build, implement and refine it whereas ‘wealth managers’ look after the money against a set of objectives.   

Both concepts have a place and neither is more important than the other and neither is subservient to the other (although practitioners from both will argue otherwise passionately).  Many firms, of course, offer (or purport to offer) both; ‘we will help you achieve your financial goals’ they say.  In practise they follow some version of the IFP financial planning process and end up with a plan that says ‘give us your money and we’ll invest it in line with your requirements’ – then, depending on their business model and expertise, put it into a portfolio of mutual funds either managed by themselves or, more likely, outsourced to a specialist wealth manager sometimes on a white label basis. 

When it comes to charging for these different but complementary service there has been something of a revolution in the past couple of years; whereas wealth managers have pretty much always charged on an ad valorem basis (posh way of saying they charge a percentage of the money they look after – irrespective of performance) Financial Planners, historically, took commission from product providers (and that was usually calculated as both an upfront percentage of the money invested  plus an ongoing annual percentage – sometimes referred to as a percentage of the LAUTRO scale – LAUTRO being a long defunct regulatory body for life assurers and the ‘scale’ being broadly equivalent to the ‘recommended retail price’).  Non capital products, such as life assurance, savings plans and other regular premium products had commission calculated using various obscure formulae worked out by the providers.

From the start of 2013 a concept called ‘adviser charging’ came in which, effectively, did away with commission replacing it with a ‘charge’ that would be agreed between the private client and their adviser.  The fee zealots plus the regulatory intellectuals and consumer terrorists believed that this would result in a world where costs to the consumer would come down as advisers would have to charge a fee that clients would write out a cheque for.

In practise what has happened is that advisers have either become investment focused (sometimes referring to themselves as ‘wealth managers’) or protection focused selling mainly mortgages and associated life products.  The consumer, of course, isn’t much better off because he is still paying a percentage for assets under management and commission on protection products although other aspects of these changes (known as the Retail Distribution Review or RDR) such as better training, the need for better quality and more relevant qualifications, and the need to acquire a certificate of professional standing have helped.

Whereas most advisers have always used ‘financial planning’ to capture funds under management because that is how they make money and, in recent years, create a value business for themselves there has always been a small subset of advisers who regard themselves primarily as financial planners.  These purists have always argued that a pure ‘fee’ model based on an hourly rate is more appropriate than one based on % of AUM.  Experience has shown that this ‘pure’ model model has only really worked at the very top end and isn’t commercially attractive for most firms.

With the increasing commoditisation of ‘fund management’ and take up of passives the voices advocating a fixed fee for financial planning including some asset management are getting louder – and attracting attention both from the industry and (to a small extent) the consumer.  The Fintech community get it and are busy disrupting the existing model by offering some interesting D2C proposition based on low cost enabled by technology and the ubiquity of fund management.  If you believe that community the present model might just see the current generation of senior wealth managers out but won’t last much longer than that.

My hypothesis is charges for financial planning should be much higher than they generally are reflecting that is where the ‘value’ is – and ad valorem charges (ie % of FUM) should be less – reflecting the thesis that asset management is becoming commoditised.  Why does it cost twice as much to service a £100k portfolio than a £50k one?

The instinctive reaction of many Intermediaries active in the ‘wealth management’ space is to discount FP costs against the ad valorem charge.  That, of course, is what a lot of firms do now and my prejudice is that this tendency devalues the skill and expertise of good quality financial planners whilst over valuing the expertise on the fund management side. 

It’s a commercial world and my hypothesis didn’t fly yesterday and probably doesn’t fly today – but it could be that technology coupled with regulation, consumer awareness etc will move the market that way.

 

By Chris Robinson, Managing Partner, Contrado Consulting and bobsguide Contributing Editor

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