Investment advice: a plural and complex concept

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Investment advice: a plural and complex concept

Interview published August 24, 2022 in Point de mire

Investment consulting is a service that has evolved in tandem with finance, and has been around as long as the latter. Yet legislators have only recently turned their attention to this activity. Not surprisingly, the definition of advisory services proposed by the LSFin was rather rigid, reflecting a multitude of different practices in just a few lines. The LSFin distinguishes between :

  • Comprehensive advice: this involves ongoing monitoring of the client’s portfolio. The advisor is proactive, recommending which asset class to buy or sell depending on market trends.
  • Isolated advice: this involves no portfolio monitoring. The advisor answers the customer’s questions or provides specific advice on financial products.

Until recently, many establishments did not classify the advice they provided in any of these categories. For example, some establishments offered their customers the fruit of their research, by submitting ‘buy lists’. Others informed their main execution only clients of the investment actions carried out for their managed clients. Some clients with execution-only mandates systematically sought their service provider’s advice before investing, and some institutions asked their clients with management mandates for their approval before investing.

Today, it’s essential to define your business from a legal point of view, and to thoroughly understand the issues and obligations involved. In times like these, the risk of a customer complaint or dispute is very real. In such a context, a well-defined contractual situation understood by all can make all the difference.

Global consulting and its key obligations :

Before entering into a comprehensive consulting agreement, the service provider must ensure that the client has sufficient knowledge and experience to understand the ins and outs of the consulting activity. The customer must be able to assess the relevance of this service, and the benefits and risks it entails. For professional customers, the financial institution can assume that the customer has sufficient knowledge and experience. However, if there are indications to the contrary, it becomes difficult to invoke such a principle.

Before concluding a global advisory mandate, the institution must also understand the customer’s financial situation and investment objectives, and ensure that the service to be provided is consistent with these. Here too, in the absence of evidence to the contrary, we can assume that the customer is in a position to assume the financial risks arising from the service.

Once these initial checks have been carried out, there’s no need to check that every piece of advice provided is appropriate to the customer’s level of knowledge and experience. The investment strategy defined with the customer at the start of the relationship should itself be aligned with the customer’s level of understanding. On the other hand, for each piece of advice provided, the advisor must ensure that it is appropriate to the client’s financial situation and objectives.

The insulated board and its key obligations :

With isolated advice, the advisor proposes investment opportunities to the customer, but does not monitor the customer’s portfolio in its entirety. This type of advice is often designed for experienced clients who invest their assets proactively.

Here again, it is necessary to check that the customer has the skills and knowledge to understand the nature of the advice to be provided (with the exception described above for professional customers). Unlike isolated advice, this verification will continue to be carried out throughout the advisory relationship, i.e. every time advice is given. This is a key difference from global consulting.

On the other hand, no verification of the suitability of the advice in relation to the customer’s financial situation or objectives is required. In fact, such verification would be pointless, since the customer is himself a player in his portfolio (remember that the advice provided in this case is isolated, as the service provider is not obliged to monitor the portfolio).

Documenting and informing

In the case of both global and individual advice, the LSFin imposes an administrative burden on investment advisors that may be consequential if the client is a private individual. The law stipulates that in the case of investment advice, service providers must “document the client’s needs and the reasons underlying each recommendation to acquire or dispose of a financial instrument”. In other words, providers are expected to draw up written reports for every piece of advice they provide, and for every customer. In addition, a basic product information sheet (if available) must be provided to the customer at the time of each advice and, if requested by the customer, a prospectus (if available) must be provided ex ante.

These requirements may prove prohibitive for some service providers, particularly those with a high proportion of private customers who do not have the tools or systems to manage these new obligations.

In conclusion

On the whole, the LSFin remains a relatively pragmatic law. Unlike MIFID II, which requires quarterly reporting to the client with precise details, the LSFin requires the service provider to consult with the client on the frequency of reporting. The very definition of the notion of knowledge and experience of a private client wishing to become a professional under the LSFin is left to the discretion of the financial service provider, whereas MIFID II imposes inflexible criteria (number of transactions per quarter, years of experience of the client).

Yet there are those who say that the LSFin has undermined investment advice for private clients. In fact, the measures that advisors have to put in place to protect their private customers are an administrative burden not only for them… but also for their customers. That said, even if the LSFin may seem imperfect, it serves a sound purpose: to protect the customer, who is sometimes at a loss in the jungle of financial services and products. This is undoubtedly where the key lies. Beyond the documentation of a suitability check, the real question is whether the customer fully understands the risks to which he is exposing his assets, and whether he has the resources to cope with difficult markets.