NextWealth has warned of ‘red flags’ for financial advisers assessing clients’ decumulation risk.
The firm’s latest report ‘Risky Business’, which looked into risk profiling and risk ratings, found the vast majority of risk questionnaires are designed to measure a client’s risk appetite as their capital grows towards an objective and are not necessarily suitable for the decumulation phase, creating more risk than advice firms may realise.
Heather Hopkins, managing director of NextWealth (pictured), said clients in decumulation need a two- dimensional scale, looking at the client’s ability to accept volatility of both income and capital.
“Attempts have been made by some risk tools to bridge the gap but for some reason they haven’t solved the problem for advisers,” said Hopkins.
NextWealth’s report found that nearly three quarters of advisers say they are confident or very confident on each factor measured in helping retired clients understand and manage various types of risk. However, assessing sequencing and longevity risk are among the most challenging for advisers. Hopkins said confidence levels are lower in this area and advisers are more likely to use manual methods than tool-based methods for assessing these types of risk.
When matching risk appetite to an appropriate investment solution, NextWealth said a clear gap in confidence emerges between advisers working with clients in accumulation versus those in decumulation.
Currently, 40% of advisers use third-party tools to map a client’s risk profile to a suitable investment and 57% rely heavily on third-party risk ratings when recommending investment portfolios for clients.
The consultancy group said that when it comes to deciding which investment solutions to use for clients, other factors override attitude to risk questionnaires (ATRQ), notably performance and platform availability.
“In fact, platform availability is even more crucial than price,” said Hopkins.
Defaqto and Dynamic Planner are used by more than half (51%) of advisers to influence fund/portfolio choice, with Defaqto used by 28% and Dynamic Planner used by 23% of advisers.
NextWealth said Defaqto’s market share has either increased significantly since NextWealth’s Adviser Reviews report in September 2023 or it is used far more to influence fund choice than for its attitude to risk questionnaire, compared to Dynamic Planner..
The report also showed there is a cohort of just under 20% of advisers who say they do not rely heavily on risk rating providers or the ATRQ when selecting portfolios or funds for clients.
Hopkins added: “One of the big issues for advice firms is lack of consistency. Tools like cashflow modelling are used but risk is bespoke, so it’s easy for significant differences to occur. As one planner told us, his risk assessment for a potential client was at an 8 but a competing firm put the same client at a 6. Over 30 years this could equate to hundreds of 1000s of pounds in difference on a relatively modest amount of money. Clearly this is not ideal and it’s something that needs to be addressed.”
