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How is regulation feeding the outsourcing trend?

New research from Knadel shows that wealth management firms are outsourcing in a way they haven’t before.

The past five years have been marked by a significant trend towards outsourcing among wealth management firms, as the industry grapples with pressures to modernise and comply with new regulations.

The findings come from a study conducted by consultants Knadel, which found that a significant portion of a sample of 50 wealth managers would now consider outsourcing trade execution, back office alongside a raft of other functions.

Attitudes have changed on the back of new regulatory requirements post-the introduction of the retail distribution review (RDR) and the Foreign Account Tax Compliance Act (Fatca).

Here we highlight some of Knadel’s key findings.

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The wealth manager participants

The sample of wealth management firms surveyed was 50-strong, responsible for £135 billion on behalf of 500,000 clients. Over 90% of the sample provides discretionary service, 57.7% advisory services, 46.2% provided family office services, while 42.3% held client money.

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Knadel found 75% of a sample of 50 wealth managers would now consider outsourcing trade execution. It is an interesting finding, given that all full service stockbrokers (equating to 23% of the sample of wealth managers used) who are currently members of the London Stock Exchange still retain the bulk of this activity in-house.

The consultancy firm questions the future of keeping this in-house, arguing that the value-add for advisory or discretionary propositions is limited.

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The study found that 50% of the sample were interested in outsourcing their back office. Knadel attributes this interest to changing regulation, particularly RDR and Fatca.

‘This regulatory pressure has led managers to reform their front office processes, segment their client base and more significantly it has given rise to a need for more efficient business operations to support different levels of client service and to implement better controls,’ Knadel noted.

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The research showed that small and medium companies have moved much quicker towards the outsourcing trend, with 40% already outsourcing their back office. It doesn’t stop there, however. The research found that firms are increasingly looking to outsource other functions besides back office, particularly client service activities.

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Higher up the scale, all private banks retained client reporting in-house, while 87% of all firms currently keep back office processes and client reporting together.

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In Knadel’s view wealth management business operating models are now becoming less driven by their so-called ‘historical tribe’. By this they mean distinctions between private client investment managers, brokers, private banks and advisers still exist but are blurring.

‘Business models are more likely to be determined by product and service propositions, size/age of firm and underlying investor size,’ Knadel concluded.

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Here Knadel outlines the current insourcing/outsourcing activities of the wealth management firms from their sample. Three quarters keep front-office functions in-house, with only 7% currently outsourcing to an external third party. Around 49% outsource middle and back office services to external third parties versus 32% which prefer to keep it in-house.

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Knadel believes the trend is supported by the growth of providers in the space and a broadening of their service offerings in response to client demand. While the consultancy firm views the services on offer as relatively immature in comparison to the institutional sector, they point out that the majority of respondents were happy with their services across all activities.

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How Knadel views the outsourcing world

In Knadel’s view, the table above charts all of the activities that are involved in wealth management from front to back office – which could theoretically be outsourced.

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Different business model, different attitude

Further analysis by the type of business model among the wealth managers showed different attitudes towards outsourcing.

Advisers are more likely to outsource back office through to custody, while full service stockbrokers, private client investment managers and family offices were found to be comfortable outsourcing back office functions generally although a significant proportion keep investment operations in-house.

Private banks, meanwhile, are less likely to outsource back office functions. Only 12% of these businesses use a third-party for investment operations and settlement, and 22% outsourced custody.

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