Advice without tears
FSCS protection for consumers is triggered when things go wrong. That includes when people receive bad advice from an authorised financial adviser.
So you might, perhaps, expect FSCS to have a slightly jaundiced view of the advice market.
That is far from the case.
The UK has a highly professional financial advice industry. The great majority of advisers give their customers conscientious and sound advice.
The trouble is that failures, when they do occur, can be very expensive. And continuing consumer confidence and trust in the industry depends on FSCS protection.
Since 2009/10, FSCS has paid out £1.5bn for claims against advisers, but over £450m of this is accounted for by just three big failures: just under £331m for Keydata; £62m for Catalyst and £58m for Arch Cru.
In a pay-as-you-go funding system like ours, these unexpected costs – passed on to firms through our levies – can be very difficult to absorb, especially for small firms.
That is why I very much welcome the review of financial advice market by Charles Roxburgh at HM Treasury and Tracey McDermott at the Financial Conduct Authority (FCA). The wide ranging review focused on improving the affordability and accessibility of advice, but without simultaneously increasing the liabilities falling on FSCS and so on FSCS’ levies. The report was published on 14 March.
So what is my take on the review’s recommendations as they bear on FSCS?
Well, the report proposes that the forthcoming FCA review of FSCS funding consider three ways of smoothing our levies. All are well worth examining.
The first is to explore reflecting the riskiness of firms’ business models in allocating our levies. As things stand, our levies are based solely on firms’ share of the market.
This is something I have urged for some time. It makes sense. And it would be fairer to ask firms which represent a greater risk to pay proportionately more to FSCS than lower risk firms. Doing so would create a positive incentive for firms to operate prudently.
The challenge is, of course, to find an objective and widely accepted way of measuring risk in the relevant funding classes. We shall need the industry’s help with this. But it’s certainly not impossible. The Prudential Regulation Authority has just consulted on doing exactly this for banks, building societies and credit unions.
The review’s second suggestion is to reform FSCS’ funding classes so that our levies are pooled more widely across a single intermediation class.
This too has plenty going for it. When we published an historical analysis of our levies on advisers since 2010 it showed significant volatility in the levies on individual intermediation sectors, but a much smoother profile for advisers as a whole. The peaks and troughs broadly balanced out. Of course that would be likely to cut across the current sector based classes.
And the third proposal was that FSCS might use its existing credit facility with a consortium of banks to borrow to smooth the peaks presented by a Keydata style failure.
This is certainly an option. But our current credit facility is designed only to deal with the short-term cash flow demands that, for example, a major banking failure would impose on FSCS: we must pay out in seven days, while our levy takes a month to collect.
We shall need to explore the cost of a longer-term facility, to consider how, in practice, we would judge when to borrow and to decide over what timescale we would then re-pay any borrowing – and on what terms.
In short, the Financial Advice Market Review has given us plenty to get our teeth into!