Risk is highlighted as Internet sales grow

The ability to buy investment products over the Internet has resulted in more transactions taking place without advice, which can mean an increase in risk for private investors. Gerry O’Kane reports. The technology industry is no longer perceived as the golden goose by investors. The Aberdeen Technology fund is down 35.7 per cent from May 1 to September 30, according to Standard & Poor’s. But private investors are still buying investment products through the Internet. There is more competition among rival Net offerings than for any other services offered by the tide of new wealth management operations to have rolled into the market in the past 18 months. Shopping by Internet Many are using the Internet as their main shop window. A good example is HSBC Merrill Integrated Online Investment and Banking Service, which allows anyone with Ł10,000 or above to park their cash at a good rate of interest while buying or selling shares. But there are concerns about such sites. Merlin Stone, IBM Professor of relationship marketing at Bristol Business School, who wrote a report for Close Wealth Management on the new industry, believes sites that allow more transactions without advice can be dangerous, especially if they purport to be wealth management sites. Doubts about value Professor Stone upset much of the financial services industry when his report, Stealth Financial Charges and the Mass Affluent, was released. It claimed that many of the financial advisers and companies “advising” them are recommending investment products that are overpriced and which do not reflect the risk profile or even particular needs of the investors who are buying them. “I’m wary of using the word overcharging but often the value may be poor because distribution costs are billed to the clients. Wealth management is often simply seen as a way of product cross-selling. What a lot of services are doing is not giving the personal advice by identifying issues like early retirement or health issues that might require cash as you grow older,” says Professor Stone. Not all institutions agree. Phil Cutts, a director of global private banking at the Royal Bank of Canada (RBC), says: “Recent events have put a lot of companies off marketing across the Internet.” Do a Net search for private banking and most search engines will list RBC in the top five sites. Mr Cutts views RBC’s marketing efforts as crucial to his business. “It is new and effective, but it’s only effective because it’s what people want,” he argues. For RBC, whose largest private banking base consists of offshore clients, being able to have a hands-on connection to their portfolio after initial investment assessment is proving quite a lure. “We have to recognise that these new money investors are more ready to shop around for themselves,” he says. Those who view the facility to shop around as a critical capability are supported by a plethora of data services. However, in recent years the boundaries between pure data services, whether offering end-of-day data, real-time information or more advanced bid/offer information, is becoming blurred with brokerage services. It is a story of good news and bad news. On the one hand, small investors are being given the opportunity to trade in products once the exclusive territory of the City of London. Risky business Spread betting, or contracts for difference (CFD), has taken off. They were developed to allow clients to receive all the benefits of owning a stock without physically doing so. You settle the difference between where you bought the contract and where you sold it. The difference is either profit or loss. It is tax-efficient (no stamp-duty) but risky, leaving you open to large losses. Perhaps not on the magnitude of Barings Japanese futures, but in a similar way by paying margin calls should the shares fall. Hedge funds are becoming more readily available to private investors and, while some educational information is free, to trade hedge funds (something which many experts say is increasingly risky with about one new hedge fund coming to market in each day) investors will probably have to pay high entry fees. Risk assessment The good news is that some Internet sites are taking risk much more seriously and as part of a subscription package, the investor can pick up formerly PC-based software to help assess portfolio risk. Once, these sorts of applications were the exclusive benefit of the high net worth investors with a private bank, such as JP Morgan’s Riskmetrics. Charles Schwab now offers risk assessment software from Financial Engines, which was set up by Nobel prize winner, Bill Sharpe. It is also available for individuals but seems US-centric.

Taking account of risk To what extent should portfolio planning advice be influenced by catastrophic events and their aftermath? Identifying risk is one crucial area of wealth management and, for many, the events of September 11 highlighted the need for solid investment advice. Investor sentiment “There has been a bear market for nearly two years and, as awful as September 11 was, it does not directly affect how you look at your clients’ portfolios; after all the markets themselves have recovered,” says Andrew Hutton, head of investment management at Coutts in London. “However, investor sentiment has changed. Clients have had a nasty shock. But it should be remembered that, while shocking events are not new, humans become risk averse when experiencing volatility,” he says. Capital preservation is the name of the game in the face of low interest rates and volatile markets, according to Leon Blitz, head of private banking at Investec. It is a time for reassuring clients, he says. “We already had a lot of clients talking to us before September 11 saying they were feeling exposed in the current bear market. “Essentially many of our clients were never with us to seek huge returns but for our advice.” Reactions to catastrophe Coutts’ Mr Hutton says clients have adopted two contrasting positions on portfolio management post-September 11. “One set of clients viewed it as a time to hoard cash, investing in defensive instruments. On the other hand, many clients said they had been here before and took a more aggressive position, seeing it as a buying opportunity.” Clients seek influence While private clients have their work cut out in identifying and analysing products suitable for the client, even after awarding full discretionary management mandates, clients still like to influence decisions. “We have to take into account the view of the client in both camps. The first group sees market volatility increasing and sees heightened risk in participating in the upside. Then we have the nervous clients who don’t like to book any losses favouring safer instruments, but not in the long term,” says Mr Hutton. It is a viewpoint that Mr Blitz endorses. “Some people approach us knowing nothing about wealth management and give us carte blanche as long as we recognise their needs. Other clients are far more knowledgeable.” Mr Hutton says: “In some respects, September 11 was a reminder of our investment philosophy for clients, that to earn more than simple bank deposit interest you must take a greater level of risk, while keeping a long term view. Hand-in-hand goes diversification within equities and across asset classes such as government bonds.” Both see structured products to protect an equity strategy as being one portfolio shift that is likely to take place. Hedge fund risk One difference is Mr Blitz’s use of hedge funds, an asset class that Coutts refuses to advise on. Although Investec’s asset management arm runs one of the largest hedge funds in the UK, Mr Blitz is wary of recent hedge fund proliferation. As far as the private banking community is concerned those horrible images in New York and their economic effects only serve to justify the performing of a risk/return analysis on a client’s portfolio. Any changes to composition now are being made to reduce risk even further because the clients feel more comfortable moving that way.