Since the Retail Distribution Review came into effect on 31 December 2012, the shift from bespoke portfolio services (BPS) to model portfolio services (MPS) has been seismic.
Advisers have used discretionary fund managers (DFMs) for years, but in the past decade this reliance has greatly increased — so much so that research by Platforum in August 2022 found almost half of adviser clients’ assets in MPS were run by a DFM.
However, many DFMs are seeing their revenues fall.
There will be consolidation of larger DFMs as they look to achieve economies of scale
Last month, Brooks Macdonald announced 55 redundancies. Although it is selling high volumes of MPS at 20bps, it’s making nowhere near as much as when it sold BPS at 70–80bps. This has had a huge impact on revenues and, although the business had cut costs as far as it could on marketing and other overheads, it is now having to look at cutting staff too.
There are fears that, as one commentator put it, this could be “just the tip of the iceberg in the DFM universe”.
Tatton ruling
So, if more advisers are turning to DFMs to manage their MPS, what is the problem?
First, MPS funds are not cheap to run. Second, DFMs can no longer charge what they used to.
The latter, in part, is down to the Tatton ruling. In June 2020, the asset management firm received a tax refund of £1.7m after HM Revenue & Customs agreed that DFMs supplying MPS were exempt from paying VAT.
Whether MPS will be the end of the road for smaller DFMs, or just a bump, only time will tell
At the time, GDIM investment manager and director Tom Sparke said: “There is certainly potential that DFMs are charging VAT where it is not needed, and advisers are taking on that cost.”
Sparke added that advisers were paying too much in general for DFM services, particularly if they required only model portfolios.
“If you need only MPS, you do not need to be paying 30–40bps when there are firms out there charging 0.15%. I think we will see the average cost of a DFM come down everywhere. It is certainly going that way.”
Charlie Parker, managing director of DFM Albemarle Street Partners, agreed, saying: “DFM fees have to come down.”
French says: ‘As downward pressure continues on fees, it is important that all DFMs continually monitor costs’
Both, as it transpired, were right. In the past year, most DFMs have removed VAT from their MPS charges. As a result, market commentators predict that smaller DFMs will disappear in the coming years.
‘Blood on the streets’
Tyndall Investment Management head of partnerships James Sullivan says that, with average MPS being 15–20bps, he envisages “blood on the streets in terms of personnel and infrastructure”.
He believes Brooks’ predicament “is evidence of this being widespread across the DFM world”. Legacy businesses that built their model around higher margins could be vulnerable, he says. However, new DFMs that have shaped their business plan around where the market is — focusing on greater volumes but lower margins — are best placed to weather the storm.
There are fears that, as one commentator put it, this could be ‘just the tip of the iceberg in the DFM universe’
Blackfinch chief distribution officer Nicholas French agrees. Newer entrants to the MPS market are “thriving” because often they have been established with a lower-revenue model, he says.
On top of falling revenues, rising interest rates and the cost-of-living crisis mean more people are moving money out of investments and into cash. So, where next? Consolidation, it seems.
French says: “There will be consolidation within those larger DFMs as they look to merge and achieve economies of scale.”
He adds there will be an increase in the size and number of “smaller and nimbler DFMs that can adapt and be innovative with a much lower cost base”.
Sullivan envisages “massive consolidation”. He adds that, while there is “definitely a place” for bespoke portfolios for clients seeking a unique proposition, he doesn’t see why the shift towards MPS won’t continue.
Many DFMs are seeing their revenues fall
French says: “There will always be a place for high-quality bespoke investment advice from a DFM. However, as downward pressure continues on fees, it is important that all DFMs continually monitor costs.”
Whether MPS will be the end of the road for smaller DFMs, or just a bump, only time will tell.
Dan Cooper is news editor. Contact him at: dan.cooper@moneymarketing.co.uk
This article featured in the Dec 2023/Jan 2024 edition of MM.
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