Many wealth firms and their advisors have viewed compliance as pure expense overhead — a tick-the-box exercise ensuring that regulatory obligations are met, with little correlation to revenue and client growth. In some ways this expense burden has been well-earned by regulatory requirements such as document disclosure, trade monitoring and surveillance. However, regulatory practices are beginning to shift, which may change how wealth leaders view compliance.
We know that good compliance leads to successful advisory practices. When we asked our wealth clients whether they see a correlation between compliant advisors and long-term success, they all replied positively. One client said, “The most successful advisors at our firm are also the most compliant, simply because they play by all the rules and have a loyal customer base as a result.”
In recent years, regulators in major western economies have changed their focus to a best interest model. In Canada, Client-Focused Reforms were introduced in 2021; in the U.S., Regulation Best Interest rolled out in 2020; and in the U.K., Consumer Duty came into effect earlier this year.
While each of these regulations has unique characteristics, a common theme is ensuring that investment recommendations are in the investor’s best interest. Firms and advisors are expected to consider client suitability and reasonably available product alternatives when making investment recommendations. Regulators’ goal is not only to protect the investor but also to improve the financial advisor’s practice. Best interest compliance requires the advisor to implement pre-trade practices that include disclosure and KYP analysis necessitating compliance technology.
We recently completed a case study that evaluated the quality of a firm’s investment recommendations over a two-year period. The wealth firm studied was using compliance technology to perform the KYP requirement of reviewing reasonably available product alternatives. Over the period the overall quality of recommendations improved by 29%, substantially improving investor outcomes (product cost decreased by 35%, product risk decreased by 16% and returns increased by 15%). While we were not surprised that the quality of recommendations improved, we were surprised at the magnitude of change.
With increasingly complex and volatile markets, the correlation between investor outcomes and their impact on wealth practice growth will become more significant in the coming years according to the 2023 EY Global Wealth Report.
The report highlights that economic and geopolitical uncertainty are having a profound impact on investors’ needs and behaviours: “Clients of all types are seeking out additional advice and investment strategies. They’re hungry for support and expertise and are increasingly willing to work with new providers.”
More than 2,600 investors were surveyed, and 44% planned to add a new provider, switch or move some proportion of assets in the next three years. In North America, 25% of clients planned to move over half of their portfolios to a new wealth manager. When investors consider a change in wealth managers, the top driver for switching is investment performance at 46%.
This is where compliance and growth intersect. The foundation for all growth strategies is client retention. If client assets move out of the wealth practice, growth requires those assets to be backfilled. EY and most industry experts are predicting an unprecedented flow of assets among wealth managers in the coming years. Wealth leaders who end up on the right side of this asset flow will implement strategies including compliance technology to maximize investor outcomes while acting in the best interest of their clients.
David Reeve is CEO of InvestorCOM Inc., a compliance technology provider to the wealth management industry.