23 May 2021
Selecting the right DFM is a crucial decision for an adviser. In this 3-part series, we reveal what our full and exhaustive rating process involves and what we look for when evaluating and considering a DFM for an RSMR rating.
We’ve been supporting the advisory market with our rated funds service since 2006 and in direct response to adviser demand, we produced our first DFM review in 2017. We now manage a rated list of 17 of the UK’s leading DFMs.
We went one step further in 2020 with the launch of the DFM Academy, a bank of in-depth research and information providing extensive fund profiles and factsheets for all solutions in the Academy, informative and insightful content and videos and topical news and ideas from the participating DFMs.
In our previous article we started at the top and looked at how we assess the corporate structure and quality of a DFM firm. We’ll now drill down into the DFM’s investment proposition, the philosophy and process and the mechanics by which this is delivered to underlying client portfolios. We’ll also be looking at how robust the firm’s risk control and monitoring functions are.
- Firstly, what is the overarching investment philosophy of the firm? How do they believe they can generate alpha and add value to client portfolios?
- Is there a centralised investment committee which dictates a house view and asset allocation decisions across all the firm’s offerings?
- With most DFMs now offering a range of service propositions, it’s important to ascertain if, and how, the same overarching investment philosophy is applied to all offerings. Assets held in a bespoke nominee account for example, may not be permissible on a retail platform hosting a model portfolio service.
- What latitude do individual portfolio managers have to deviate from the central asset allocation and security selection guidance?
- What are the various committees that contribute to the overall investment decisions?
Most DFMs operate some form of central investment committee which is typically led by the CIO, with multiple sub committees reporting in, such as an asset allocation committee, stock and fund selection committees etc. It’s vital to ascertain what role these committees play and the hierarchy and decision-making processes employed.
- Who sits on the various committees? What is their experience and what other roles do they perform within the firm?
- What is the extent and capability of the firm’s in-house research function?
- How well are the various research departments resourced and staffed? Looking at the bios and experience of the senior members within the research teams can provide valuable insight.
- What external research resources does the firm utilise?
- Is research cost absorbed on the firm’s own P&L?
- How many company visits/manager meetings does the firm typically conduct on an annual basis?
- What is the firm’s stance on ESG matters?
- Do they offer sustainable/ethical branded portfolios and/or is ESG embedded within the research process?
- What type of securities will the firm invest in? Will they hold direct equites and bonds, or do they purely utilise collectives? This may differ between their bespoke services and their MPS solutions. Would they hold UCIS funds, hedge funds or funds falling under AIFMD for example. Do they invest in structured products, unlisted assets or crypto currencies?
- What is their stance on derivatives and hedging?
The best centralised investment proposition in the world will only work for your clients if it is reflected in their individual portfolios. So, it’s important to understand how the firm communicates their latest house views and tactical asset allocation calls to the various divisions that manage client assets. For one size fits all model portfolio solutions, this should be reasonably straightforward. For the more bespoke solutions, it becomes much more nuanced. To tailor portfolios to individual client needs, objectives, and any social or ethical concerns, portfolio managers need to have a degree of latitude by which they can deviate from the central process at the asset allocation level and particularly at the security level. Understanding the degree of latitude portfolio managers have and how this is monitored should form part of any due diligence process when selecting your DFM.
- How will portfolios be benchmarked?
- Are these benchmarks realistic given the asset mix within the portfolios?
- How easy are they to compare with other portfolios your firm might offer?
- Does the DFM submit their portfolios to ARC for peer group comparison?
- What attribution analysis will be provided?
- From a compliance perspective, advisers will need to ensure the selected portfolio matches their client’s attitude to risk.
- Who will be responsible for risk profiling, adviser DFM, or both?
- Has the DFM mapped their model portfolios to the adviser’s selected risk profiling tool?
Advances in technology and software systems have made a positive impact on the risk monitoring process, making trade and portfolio analysis instantly available to the various parties involved within a firm’s risk monitoring function but this will only be effective if the information is analysed correctly, in a timely manner and acted upon where necessary.
- It’s useful to have a broad understanding of the risk control policies of the company. Where does the risk control and monitoring process begin? In the first instance, this might be with portfolio managers themselves.
- Moving up from the portfolio manager, what’s the next line of defence? What teams/committees are in place to monitor portfolios? Again, it’s worth looking at the bios and experience of the key members of the teams.
- Who do the various risk managers report to and how independent are they from the investment team?
- Are managers permitted to place their own trades, or is there a centralised dealing function?
- How frequently are portfolios checked for mandate compliance?
- Where portfolios drift outside of their mandate and the risk team identifies an issue, is there a clear policy, reporting line and timeframe on how this should be addressed?
- What tools/software are employed to help with the monitoring process? Do these systems provide pre-trade alerts?
- Who has access to these reports?
- Finally, is there an external third-party audit of the internal risk monitoring process?
David Perkins, Investment Consultant at RSMR.
David sits on numerous investment committees and has worked in the financial services industry for 25 years.
The value of investments and the income from them may go down as well as up and investors may not get back the amounts originally invested.
Rayner Spencer Mills Research Limited is a limited company registered in England and Wales under Company Registration Number 5227656. Registered office: Number 20, Ryefield Business Park, Belton Road, Silsden, BD20 0EE. RSMR is a registered trademark.