The Australian financial planning sector is moving toward a behavioural finance approach to risk profiling regulation, according to the national head of DNA Behavior.

“This supports the very basic Future of Financial Advice (FoFA) language that’s in the regulation around know your client, know the product,” says Malcolm Le Lievre, managing partner, DNA Behavior.

The United States-based company counts one of Australia’s big five financial institutions among its list of clients, along with a number of non-aligned and independent AFS licensees.

Le Lievre says that two years ago, when the company first brought its risk profiling product to Australia, “people weren’t really focusing on risk profiling.”

“Now, we’re getting a lot more people in the last six to nine months say ‘this is actually something we need to focus on, to get to a much higher level of behaviour compliance.’”

Poor risk profiling, bad advice

The Australian Securities and Investment Commission (ASIC) noted Commonwealth Financial Planning’s failure to adequately consider clients’ risk profiles in its first submission to the Senate Inquiry earlier this year.

These failures also commonly occur where clients are over-geared, such as in the case of Storm Financial.

“The advisers hadn’t actually done a risk profile, which was clearly not in line with their clients’ best interests at all,” Le Lievre adds.

Compliance pushes risk profiling

“People want to de-risk their process, both from an adviser and dealer group perspective.

“It doesn’t tell you in the legislation how to do that [risk profiling]. But I suspect that over time, there will be greater requirements on the level of detail required.”

While he believes there will be a more robust approach to the overall risk assessment, Le Lievre says the regulator will “never stipulate which particular risk profile instrument you’ve got to use.”

“But what I suspect will happen is, over time, an increased expectation of the depth and quality of risk profiling for clients.”

Risk profiling is mandatory for financial planners, but there are wide variations in the level of detail and scope employed across different financial advice businesses.

This is changing as the link between poor financial advice and non-compliant risk profiling is better understood.

“When you’re looking at the best interests of a client, part of that is very clearly, know your client, know the products you’re recommending,” says Malcolm Le Lievre, managing partner – Australia, DNA Behavior.

“You clearly have to have a very good understanding of both the client’s appetite for risk and also their tolerance for risk.”

When to do it

Risk profiling is typically undertaken during the discovery stage of financial advice, helping understand who the client is, in relation to the adviser.

“This aids the fact find enormously, because it’s not just about numbers, and the financial position and goals of the client, it’s about who they are and what kind of relationsip they actually want to have with a client, how they want to walk through the planning process with the clients.”

Le Lievre refers to question areas that feature in some of DNA Behavior’s own proprietary risk profiling models.

“Does the client need a lot of research information, or do they lack attention to detail…are they relationship driven, or do they pay close attention to the process,” he says.

In one recent example, he says there was serious miscommunication between the adviser and the client, merely because the level of control the client wanted was much higher than the adviser thought.

He refers to two opposing positions in one of DNA Behavior’s questions, “delegates to adviser” and “may take control of the process”. The adviser had thought the client was closer to the “delegate” end of the spectrum than the “take control” end.

“They’re all ingredients that come through how the adviser works with the client and manages risk,” he says.

“It doesn’t tell you in the legislation how to do that. But I suspect that over time, there will be greater requirements in the level of detail needed.”

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Glenn Freeman is a senior journalist for Professional Planner. He has around three years’ experience in financial services journalism, having also covered broader areas of business including M&A activity and energy. His journalistic experience includes five years spent abroad, where he was editor of an oil and gas title in the United Arab Emirates along with other in-house and freelance projects, which included stints in motorcycle and automotive journalism.