Suitability Requirements For Complex Products

The February 2012 ISOCO Consultation Report on Complex products is out!

My opinion: no one should be allowed to recommend complex products without a) the necessary expertise and b) accountability and responsibility for a decision that should only be entered into with full discretion over the advice and investment process.

A complex product exists because either the “advisor” or the client does not possess the systems, resources and/or the expertise to construct the product’s intended outcome from fundamentals within a bona fide portfolio structure.  

When I say advisor, I am speaking of someone who has discretion over the process in which advice or a portfolio framework is determined and managed.   Where complex products are recommended by advisors, these products need to be capable of fitting in with a well defined portfolio or asset allocation structure intended to manage risk and return for a given set of client circumstances.   The client will need to understand the role and fundamentals of the product but will not need to be able to integrate such a product into their asset allocation: this is the advisor’s role.   The responsibility for making sure that the product and its nuances are fully understand, and that it is capable of complementing and functioning within a portfolio of assets, is the advisor’s responsibility.

Salesmen whose only objective is to sell products that match suitability requirements should not be selling complex products for a number of reasons, the 4 major ones being:

  1. In many instances the investor/client is unaware of the true relationship and assume that they are being provided advice in the context discussed above.
  2. Most investors do not possess the necessary processes, systems, expertise, experience and resources to properly integrate complex products within their portfolio.
  3. Most salesmen do not possess the prerequisites for integrating and managing such products within a portfolio or asset allocation.
  4. The product distribution system is not capable of safely managing the risks of complex products.

Complex products should be available for purchase by experienced, professional and knowledgeable investors but this should be on the basis of an execution only service: caveat emptor.

And please note that I consider leverage to be a complex investment arrangement which should be assessed under the “complex product” banner.

Thanks again Ken Kivenko for the heads up!

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