‘Managing risk’ would surely score highly in a game of financial services buzzword bingo. It is not just a buzzword, though. It is something we are all encouraged to do from an early age - you were probably quite small the first time someone told you “don’t put all your eggs in one basket”. Yes, it is an intangible concept, but it is no arcane corner of academia. It is very real; something we surely all grasp in the wake of the financial crisis.
In focus
The Sipp industry has been directly in the focus of the regulator for years. Sipps were cited as an emerging risk three years running in the former FSA’s Retail Conduct Risk Outlook. The FSA published its first thematic review of Sipp operators back in 2009, with the failure to manage risks sufficiently at the heart of many of the concerns. Looking back, the failures raised sound wearily familiar: monitoring the quality of business, embedding treating customers fairly (TCF), implementing effective systems and controls, managing conflicts of interest and providing adequate disclosure.
There should be no mistaking that the FCA sees Sipps as a risk, too. Its final notice on the managing director of a failed Sipp operator was remarkably damning, covering at length the failure to control growth, monitor the exposure to non-standard investments and vet third parties.
These papers cite the handbook rules extensively - they should be imprinted in the minds of those managing Sipp operators. Box 1 shows a small selection of excerpts. Managing risk is explicitly cited - repeatedly.
The areas of risk and means to monitor and manage them are too numerous to list exhaustively but examples include:
– Inducements and conflicts of interest - detailed and exacting standards were set out in January’s finalised guidance. The biggest area of risk is, arguably, agreements under which providers pay distributors large sums.
– Sources and quality of business - the Sipp operator will need to set out and enforce the conditions on which it accepts business and pay particular regard to TCF if it accepts execution-only business. The operator cannot blindly accept advised business: it must check advisers’ authorisation and permissions on an ongoing basis and monitor patterns for advice that gives rise to concern (for example, frequent use of high-risk investments or in high concentrations). It must also monitor the extent of its exposure to its biggest introducers.
– Investments - just as advisers diversify clients’ portfolios, so the Sipp operator needs to ensure that its overall portfolio for all members is diversified. This could be in terms of the investment type, the individual investment or the third parties managing investments or providing execution or custody services (e.g. DFMs, platforms, brokers and banks).
There are also risks that are particular to or simply higher in certain investment types. These need mitigating at an individual level:
– Unregulated collective investment schemes (UCIS) - numerous failures and scams have been reported;
– Unquoted shares - may be used for pension liberation;
– Commercial property - liquidity of the Sipp is important to cover risks such as voids or arrears and to meet ongoing charges;
– Derivatives - agreements need to be designed to avoid unlimited liabilities and “cross contamination” of losses from one person to other members;
