Wealth managers are struggling to find MiFID II compliant solutions that accurately assess client risk suitability and ESG sustainability preferences whilst meeting the regulation.
MIFID II regulations last year introduced specific ESG rules on suitability in the European Union, with UK regulators soon to follow. Oxford Risk believes wealth managers need to overhaul suitability tests to address these changes in the wealth industry.
It points to the growing opportunity for wealth managers – professionally managed ESG assets under management are forecast to hit $53 trillion in two years and represent a third of all global assets under management* – but warns existing suitability solutions fail to address the opportunity.
Oxford Risk urges wealth managers to address client sustainability preferences properly by adopting best practices and a methodology that adheres to the MiFID II regulation. Wealth managers need to be aware that whilst short-term sustainability preferences may change over time, a proper client sustainability assessment should accurately capture longer-term preferences removing the need for exclusions and ongoing trades that may negatively impact client portfolio performance.
Based on market-leading behavioural research, Oxford Risk’s suitability and sustainability tools continue to evolve, providing a solid scientific grounding to the questions of how much sustainable investing is suitable, and how much should be weighted towards specifically environmental causes.
Greg B Davies, PhD, Head of Behavioural Finance, Oxford Risk said: “Sustainability preferences are part of investors’ wider financial personality, just as sustainable investments are part of a wider portfolio of investments. They are inevitably intertwined with questions of risk, and other goals, both social and financial.
“Financial institutions need to improve their processes for understanding the risk and investment suitability of their clients to ensure they are not only compliant in a tough regulatory environment – but also provide the best possible service to clients.”
Oxford Risk research** with wealth managers across Europe shows 77% predict increased investment in financial personality technology. Around 80% of those questioned said improved technology to better understand a client’s financial personality is a way to gain a competitive advantage and win more business.
Oxford Risk’s behavioural tools analyse investors’ financial personalities and preferences as well as changes in their financial circumstances, which supplemented with other behavioural information and demographics, enables them to build the most comprehensive picture of client suitability.
Its ESG suitability framework elicits each investor’s unique ESG preferences to determine how much ESG each investor should be encouraged to have in their portfolio, and how the portfolio should be constructed to meet each investor’s personal preferences for balancing “E”, “S”, and “G”. It also provides support for ongoing investor engagement using behavioural messages tailored to each investor. Its financial personality tests can measure up to 20 distinct dimensions, of which six reflect preferences for ESG investing.
The company, which builds software to help wealth managers and other financial services companies assist their clients in making the best financial decisions in the face of complexity, uncertainty, and behavioural biases, has developed proprietary algorithms which rank products, communications, and interventions for their suitability for each client at a particular time.
It believes the best investment solution for each investor needs to be anchored on stable and accurate measures of Risk Tolerance. Behavioural assessments then provide an opportunity for investors to learn about their own attitudes, emotions, and biases, helping them prepare for any potential anxiety that is likely to arise. This should be used to help investors control their emotions, not define the suitable risk of the portfolio itself.