Chapter One

The Financial Services

Sector
1. The Purpose and Structure of the Financial Services Sector 3

This syllabus area will provide approximately 4 of the 100 examination questions

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2
 The Financial Services Sector

1. The Purpose and

1
Structure of the
Financial Services
Sector
This chapter offers an introduction to
the financial services sector by looking
at the purpose of the sector and its main
participants before looking at economics
and financial markets.

1.1 The Financial Services

Sector in the Economy
Learning Objective

1.1.1 Know the function of the financial

services sector in the economy:
transferring funds between
individuals, businesses and
government; risk management

The financial services sector is central to

the global economy and encompasses
a wide and diverse series of activities
ranging from banking to insurance, stock
markets, venture capital and, of course, the
management of wealth.

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 Financial Services Sector
The scale of the global financial services sector is undoubtedly enormous, and some of the statistics
associated with it are of such a size as to render the numbers almost incomprehensible. For example,
according to statistics from the Bank for International Settlements (BIS), daily turnover on the foreign
exchange (FX) market can be in excess of US$6 trillion, while the total value of shares quoted on
the world’s stock exchanges exceeded US$109 trillion as at the end of 2020 according to the World
Federation of Exchanges.

The growth in financial services across the globe has been greatly helped by the extraordinary
development and changes brought about by technology, akin to the industrial revolutions in various
countries between 1760 and 1900. The combination of rapid technological change and globalisation
has resulted in low inflation, strong growth and rapid proliferation of bond and equity markets.
Technology has also heralded significant changes in societies, stemming from urbanisation, growing
income disparities and changing patterns of consumption, especially in the developing world as can be
seen from China and India, resulting in their requirements for financial services.

Some people around the world are moving out of subsistence, towards having disposable income for
leisure and saving and investing for the future and other generations. Hence the need for some sort of
financial management, be it simple banking accounts to life assurance products. Governments are also
investing vast sums in infrastructure, hence the need to raise capital from financial markets.

Financial companies provide a vital economic function in bringing together those with money to invest
(with the aim of achieving growth or future income) with companies and governments who need
capital for investment, expansion or for funding their ongoing operations.

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 The Financial Services Sector

The financial services sector plays a critical role in developed and developing economies and provides

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the link between organisations needing capital and those with capital available for investment. For
example, an organisation needing capital might be a growing company and the capital might be
provided by individuals saving for their retirement in a pension fund. It is the financial services sector
that channels money invested to those organisations that need it and which provides transmission,
payment, advisory and management services.

The role of the financial services sector can be broken down into three core functions:

Provides the link between organisations needing

Investment Chain
capital and those with capital available for investment

Allows risks to be managed effectively and efficiently

Managing Risk through the use of insurance, and increasingly through
the use of sophisticated derivatives

Mechanisms for money to be managed, transmitted

Payment Systems
and received quickly and reliably

In a little more detail, these encompass the following:

• Through the investment chain, investors and borrowers are brought

together, bringing finance to business and opportunities for savers to
Investment Chain manage their finances over their lifetime.
• The efficiency of this chain is critical to allocating capital to the most profitable
investments, providing a mechanism for saving, raising productivity and, in
turn, improving competitiveness in the global economy.
• In addition to the opportunities that the investment chain provides for
pooling investment risks, the financial services sector allows other risks to
be managed effectively and efficiently through the use of insurance and
Managing Risk increasingly sophisticated derivatives, to offset certain exposures or to
speculate against events (anticipated or unanticipated).
• These tools help businesses cope with global uncertainties as diverse as the
value of currencies, the incidence of major accidents or climate events and
protect households against everyday events.

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 • Payment and banking services operated by the financial services sector
provide the practical mechanisms for money to be managed, transmitted
and received quickly and reliably.
• It is an essential requirement for commercial activities to take place and
for participation in international trade and investment. An international
example of a payment system is SWIFT, the communications platform that
enables its members to exchange financial information securely and reliably
Payment Systems and, in so doing, standardise international financial transactions.
• Access to payment systems and banking services is a vital component
of financial inclusion for individuals, although this does vary country by
country and is dependent on whether a country is fully integrated into the
global financial system.
• At one time, it was the more advanced countries that had the most
sophisticated payment systems, but today the use of technology is changing
that. In Africa, for example, mobile phones make online banking payment
systems accessible to people who previously did not have a bank account.

Across the world, there are disparities in economic development. One of the reasons for this can be
linked to how well developed the financial sectors are in a country. For example, deeper financial
markets in the US relative to those in Europe are, to a large extent, responsible for the larger increases
in productivity and faster pace of industrial innovation. Another piece of evidence supporting this view
is the empirical study of Popov and Roosenboom (2009), who found that better access to private equity
and venture capital has had a positive impact on the number of patents in Europe.

Developing countries are increasingly implementing plans to develop their financial services sector as
a key pillar of economic growth.

Role of the Financial Services Sector in Economic Growth

Research shows that a positive link exists between the sophistication of the financial system and
economic growth. A well-developed financial system should improve the efficiency of financing
decisions, favouring a better allocation of resources and thereby economic growth.

In conclusion, for the effective running and development (health) of an economy, it is vital that there is
a functioning financial system – credit provision; liquidity provision; risk management – and to create a
marketplace for both buyers and sellers of finance and financial securities.

According to the Federal Reserve Bank of San Francisco (January 2005):

‘Financial markets help to efficiently direct the flow of savings and investment in the economy in ways that
facilitate the accumulation of capital and the production of goods and services. The combination of well-
developed financial markets and institutions, as well as a diverse array of financial products and instruments,
suits the needs of borrowers and lenders and therefore the overall economy’.

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 The Financial Services Sector

1.2 Main Institutions and Organisations

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Learning Objective

1.1.2 Know activities associated with wholesale financial markets and retail financial markets
1.1.3 Know the role of the main institutions/organisations: retail banks; investment banks; pension
funds; fund managers
1.1.4 Know activities associated with: custodians

The financial services sector comprises a broad range of businesses that provide financial services to
governments, business and individuals. The range of activities and services undertaken is wide and
ranges from the provision of simple bank accounts to complex structures used for corporate finance to
name just two examples.

As a result of this, having an appreciation of the breadth and scale of the sector is useful so that different
services can be placed in context. A starting point is to try and provide an overall structure that services
can be allocated to, and to distinguish between wholesale and retail financial markets.

Wholesale and Retail Markets

• Wholesale financial markets enable companies, public sector
organisations, governments and financial institutions to raise short-
Wholesale term finance and long-term capital to fund growth; undertake domestic
Markets and international trade; manage financial and other risks; and pursue
investment opportunities.
• The effective operation of wholesale markets is critical to both the
functioning of retail financial markets and the economy as a whole.
• Retail financial markets are where companies and firms provide financial
Retail Markets services directly to individuals and small businesses. These can range from
banking accounts to lending, insurance and wealth management.

In simple terms, the wholesale market can be thought of as the provision of financial services in the
business to business sector, whereas the retail market is the provision of financial services by businesses
to customers. The division into these two markets is a useful way to see the sector; however, there are
many areas that do not fit neatly into either area and there are some that straddle the two.

The financial activities that make up the wholesale financial sector include:

• International banking – cross-border banking transactions.

• Equity markets – the trading of quoted shares.
• Bond markets – the trading of government, supranational or corporate debt.
• Foreign exchange – the trading of currencies.
• Derivatives – the trading of options, swaps, futures and forwards.
• Fund management – managing the investment portfolios of collective investment schemes,
pension funds, insurance funds, hedge funds and private equity.

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• Insurance – re-insurance, major corporate insurance (including professional indemnity), captive
insurance and risk-sharing insurance.
• Investment banking – the provision of tailored banking services to organisations, which includes
activities such as corporate finance, undertaking mergers and acquisitions, equity trading, fixed-
income trading and private equity.

By contrast, the retail sector focuses on services provided to personal customers, including:

• Retail banking – the traditional range of current (US: checking) accounts, savings accounts, lending
and credit cards.
• Insurance – the provision of a range of life insurance and protection solutions for areas such as
medical insurance, critical illness, motor, property, income protection and mortgage protection.
• Pensions – the provision of investment accounts specifically designed to capture savings during a
person’s working life and provide benefits on retirement.
• Investment services – a range of investment products and vehicles ranging from execution-only
stockbroking to full wealth management services and private banking.
• Financial planning and financial advice – the service of helping to plan a client’s financial future,
taking into account mortgages, debts, insurance and pensions.

In many financial centres, however, the picture is complicated by the fact that many large organisations
span the whole spectrum of financial services, blurring the traditional boundaries between various
products and providers.

1.2.1 Banks and Savings Institutions

In today’s financial services marketplace, a range of banks and savings institutions exists to provide a
wide variety of deposit, lending and investment products to individuals, businesses or both.

Types of Bank and Savings Institutions

• These are the typical well-known banks found in most cities and towns
that accept deposits and make loans to and from customers and smaller
businesses.
• Historically, these institutions have tended to operate through a network
of branches located in town centres, but increasingly they provide
internet-based banking services.
Retail and • As well as providing traditional banking services, larger retail banks also
Commercial Banks offer products such as asset management, pensions and insurance, and
sometimes execution-only and other broking services.
• Traditionally, retail banks offered services and products to individuals,
whilst commercial banks dealt directly with businesses. Today, that
distinction has become blurred.
• Retail and commercial banks are owned by their shareholders; but some
may instead be owned by the government such as the Industrial and
Commercial Bank of China (ICBC).

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 The Financial Services Sector

• In addition to retail and commercial banks, most countries also have

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savings institutions that started off by specialising in offering savings
products to retail customers, but now tend to offer a range of services
similar to those offered by banks.
• They are known by different names around the world, such as cajas in
Spanish-speaking countries. In the UK and Australia, they are usually
known as ‘building societies’, recognising the reason why they first came
about: they were established in the 19th century when small groups of
people would group together and pool their savings, allowing some
members to build or buy houses. Japan Post Bank, part of the post office,
Savings was the world’s largest savings bank until it listed on the Tokyo Stock
Institutions Exchange in 2015.
• Savings institutions are typically jointly owned by the individuals that
have deposited or borrowed money from them – the ‘members’. It is
for this reason that such savings organisations are often described as
‘mutual societies’. The major difference between traditional banks and
a mutually-owned savings institution relates to its ownership. The latter
are owned by the members of the savings institution.
• Over the years, many savings institutions have merged or been taken
over by larger ones. In the past, a number have transformed themselves
into banks that are quoted on stock exchanges – a process known
as ‘demutualisation’ where the members of the savings institution
became shareholders.
• Consumer finance companies specialise in providing loans to individuals
to finance the purchase of items such as cars or household equipment.
Car manufacturers often own specialist lenders so they can help finance
the purchase of their cars.
• There are also finance companies that specialise in providing finance
Finance to businesses – offering loans and other services such as factoring.
Companies Factoring is where the company sells its accounts receivables (ie, its
unpaid invoices) to the finance company at a discount. The business
then receives the cash immediately which will aid its cash flow.
• A major difference between these and traditional banks is that banks get
some of their funding from accepting deposits, whereas these specialist
lenders get their funding from shareholders, banks and the capital
markets.

As mentioned in section 1.1, technology is breaking down the barrier to entry that retail banks used
to enjoy. This is resulting in new providers, such as internet-based banks challenging the traditional
role of the existing banks and savings institutions; technological developments have allowed online
banks to offer their banking services without an extensive network of offices. Another term entering our
lexicon to explain new banks is challenger banks; they have been designed to compete with the larger
mainstream retail banks, but are seen as more nimble, with fewer products and, most importantly, are
not encumbered by legacy issues.

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In Asia and Africa, the widespread use of smartphones allows people to receive financial services at
their fingertips, as long as an internet connection is available, and payments can be carried out through
QR codes, fingerprints and facial recognition. In China, for example, tech giants, such as Ant Group and
Tencent, have entered the financial services sector and are changing how financial services products are
distributed. Ant Group operates Alipay, the world’s largest mobile and online payments platform.

A more recent development in the banking industry has been the emergence of competitors to the
traditional role of banks in the form of peer-to-peer lending (P2P). In the traditional banking model,
banks take in deposits on which they pay interest and then lend out at a higher rate. The spread
between the two is where they earn their profit. P2P lending cuts out the banks so borrowers often
get slightly lower rates, while savers get far improved headline rates, with the P2P firms themselves
profiting via a fee.

In exchange for accepting greater risk, savers can earn higher returns which can be very useful in periods
of low interest rates. Available rates vary depending on the type of borrower that the P2P site lends to
and the risk the lender is prepared to accept. The deposit is lent out to individuals and businesses, but
it may take time before all of a large deposit is lent out and earning interest. No interest is paid while it
is waiting to be lent out. Immediate withdrawals are not always possible and, where they are, may take
time and incur a charge or a reduced interest rate.

A further development seen in many markets is the emergence of shadow banking. This term is
a general phrase intended to catch a range of non-bank institutions that provide services similar
to traditional banks but outside banking regulations. These range from pawnbrokers and finance
companies at one end of the sector to money market funds and specialised investment vehicles at the
other. Regulators worldwide have become increasingly concerned about the risks this poses to the
financial system and in China, for example, regulators have taken action to rein in shadow banking to
curtail the risks they can pose.

1.2.2 Investment Banks

While investment banks may be called ‘banks’, their operations are far different from deposit-taking
commercial banks.

Investment banks provide advice to and arrange finance for companies that want to float on the
stock market, raise additional finance by issuing further shares or bonds, or carry out mergers and
acquisitions. They also provide trading services for institutions that might want to invest in shares and
bonds; in particular pension funds and asset managers. In addition, investment banks support the
trading activities of alternative vehicles such as hedge funds.

Typically, an investment banking group provides some or all of the following services, either in divisions
of the bank or in associated companies within the group:

• Corporate finance and advisory work, normally in connection with new issues of securities for
raising finance, takeovers, mergers and acquisitions.
• Banking, for governments, institutions and companies.
• Treasury dealing for corporate clients in currencies, with financial engineering services to protect
them from interest rate and exchange rate fluctuations.

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 The Financial Services Sector

• Investment management for sizeable investors, such as corporate pension funds, charities and

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high net worth private clients (see section 1.3). In larger firms, the value of funds under management
runs into many billions of dollars.
• Securities-trading in equities, bonds, derivatives and the provision of brokerage and distribution
facilities.

Only a few investment banks provide services in all of these areas. Most others tend to specialise to some
degree and concentrate on only a few product lines. A number of banks have diversified their range of
activities by developing businesses such as proprietary trading, servicing hedge funds or making private
equity investments, but their ability to do so is now being restricted by regulatory changes introduced
following the global financial crisis of 2007–08, such as the Dodd-Frank Act in the US (the Volcker Rule).

1.2.3 Pension Funds

Pension funds receive contributions from, or on behalf of, employees and then provide an income on
retirement. Pension funds are large, long-term investors in shares, bonds and cash. Some also invest
in physical assets such as property. Given their aim of providing a pension on retirement, the sums of
money invested in pensions are substantial.

1.2.4 Fund Managers

Fund managers, also known as asset managers, run portfolios of investments for others. They invest
money held by pension funds, insurance companies, high net worth individuals and others. Some are
independent companies; others are divisions of larger entities such as insurance companies or banks.
Fund managers will buy and sell shares, bonds and other assets in an attempt to increase the value of
their clients’ portfolios.

Fund managers manage portfolios for different types of client with widely varying sizes of funds. For
convenience, they can be subdivided into three main types reflecting the market they are serving as
shown in the following below.

• Institutional fund managers work on behalf of institutions, for

Institutional Fund
example, investing money for a company’s corporate pension fund
Managers
or an insurance company’s fund.
• These fund managers operate mutual funds that are available
Mutual Fund
to the general public to invest in, often with relatively low initial
Managers
investment amounts.
• These are sometimes called private client fund managers or
Discretionary portfolio managers to make the distinction that they are running
Investment Managers individual portfolios for private clients. These may be portfolios
that are bespoke to the client or model portfolios.

Obviously, institutional funds typically provide the fund managers with larger sums of money than do
retail or private clients, although retail pooled pension funds can rival institutional mandates for size.
Fund managers make a profit by charging their clients money for managing portfolios. The charges are
often based on a small percentage of the fund being managed.

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1.2.5 Custodians
Custodians are banks that specialise in safe custody and asset services, looking after securities, eg,
shares and bonds on behalf of others such as fund managers, pension funds and insurance companies.

The activities they undertake include:

• Holding assets in safekeeping, such as equities and bonds.

• Arranging settlement of any purchases and sales of securities.
• Asset servicing – collecting income from securities, such as bonds and equities of the actual
underlying companies and then paying them out to either the client holders or the wealth
management house for that company to pay to their client accounts, and processing corporate
actions.
• Providing information on the underlying companies and their annual general meetings (AGMs) to
their clients.
• Managing cash transactions.
• Performing foreign exchange transactions where required.
• Providing regular reporting on all their activities to their clients.
• Reconciliations of assets held to tally with what the funds expect that they are holding. This function
is also called trade support.

They may also offer other services to their clients, such as measuring the performance of the portfolios
and maximising the return on any surplus cash. Custodians, like fund managers, make money by
charging fees for their services.

In common with both fund managers and stockbrokers, some custodians are independent while others
are divisions of larger entities, such as investment banks. Custodians can operate either domestically,
regionally or globally. Global custodians, such as Bank of New York Mellon and State Street, provide
custody services in most markets by either having a branch in the market or using a local agent. A
regional custodian provides specialist services across a region, as the global custodian HSBC Securities
Services does, for example, in Asia and the Middle East.

1.3 Wealth Management

Learning Objective

1.1.5 Understand the roles of investment management and financial planning in the wealth
management sector: investment managers; financial planners; private banks; platforms

Wealth management refers to the provision of financial services that have the goal of preserving and
enhancing clients’ wealth. As we have already seen, it includes the provision of financial advice as there
has been a move to integrate financial advice and investment management. Hence, the sector is seeing
the consolidation of those two sectors that were previously separate services.

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 The Financial Services Sector

Wealth management delivers a wide range of services that enable an individual to manage their

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financial affairs and assets effectively, such as:

• tailored banking products

• investment management
• secured lending against investment portfolios to allow them to be leveraged
• investment products in areas such as foreign exchange, structured investments, property and
alternative investments
• trusts and estate management
• tax planning, and
• estate planning.

The provision of these services is typically segmented according to wealth, with clients classified as
mass affluent, high net worth or even ultra-high net worth.

The value applied to define each segment will clearly change from market to market, but the following
gives an indication of the asset profile of individuals making up each segment:

• Mass affluent – investable assets over US$100,000.

• High-net-worth individuals (HNWIs) – investable assets of over US$1 million.
• Very-high-net-worth individuals – investable assets of over US$5 million.
• Ultra-high-net-worth individuals – investable assets of over US$30 million.

The 2020 World Wealth Report published by Capgemini estimated that the value of assets managed on
behalf of HNWIs exceeded US$74 trillion. HNWI wealth remains on course to reach US$100 trillion by
2025.

1.3.1 Financial Planning

The role of the wealth manager will vary depending on the value of the client’s assets and the services
offered by the firm they work for. The areas that a wealth manager may get involved in on behalf of a
client include financial planning, tax planning, investment management, asset protection and estate
planning to name just a few of the main areas of advice. This wide spectrum means that a wealth
manager may be the primary contact for the client and sub-contract other activities to specialists.

Wealth management involves an ongoing service to clients, and includes both financial planning and
the provision of appropriate solutions. Before proceeding further, it is useful to specify what is meant by
financial planning.

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The Chartered Institute for Securities & Investment (CISI) website explains it in the following way:

CISI Wayfinder
Financial Planning is an ongoing process to help you make sensible decisions about money that can
help you achieve your goals in life; it’s not just about buying products like a pension or an individual
savings account.

It might involve putting appropriate wills in place to protect your family, thinking about how your
family will manage without your income should you fall ill or die prematurely, spending money
differently, but it involves thinking about all of these things together, ie, your ‘plan’. You can build a
plan on your own, or if your needs are more complex you might want the help of a financial planner.

Start by working out your goals in life, in the short, medium and long term. Prioritise them, and think
about the likely cost of those goals and when you will need the money, so you can start to plan your
finances to work out how to achieve them. Don’t forget you also have to plan for some of the hurdles
you may have to overcome too. It’s about getting organised; being in control of your finances rather
than letting your finances control you.

From this, we can immediately see that financial planning is an evolving plan of action, distinct from
financial advice which is a one-off recommendation at a single point in time.

A financial plan may be very simple or very complex. However, the production of a plan will always
result from following a financial planning process. A description of the steps involved in the financial
planning process is defined by the Financial Planning Standards Board (FPSB) which describes the
process as including at least six steps that form an ongoing cycle.

Financial Planning in Six Steps

Establish client
relationship

Collect client’s
information

Review client’s
situation

Analyse client’s

Develop solutions
Implement

Source: Financial Planning Standards Board ltd

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 The Financial Services Sector

The FPSB is a non-profit organisation that manages, develops and operates certification, education

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and related programmes for financial planning organisations. Its professional qualification – Certified
Financial Planner (CFP) – is used globally, including by the CISI.

The solutions developed from the financial planning process may also include the selection of
investments, investment management, protection products and estate planning, and each of these is
considered in later chapters of this workbook.

1.3.2 Wealth Management Providers

Wealth management refers to a financial service that addresses the investment, tax, protection
and estate planning needs of a client. It, therefore, goes beyond financial planning or investment
management by taking a holistic view of a client’s needs and developing solutions to meet those needs.

The type of services offered and the minimum amount of funds needed for the service will differ not
just from country to country, but from firm to firm depending on their area of specialism. It is a service
offered by private banks, stockbrokers, subsidiaries of banks and increasingly by financial planning firms.

Financial Advisers
A financial adviser is one that can provide a financial planning service that may look at a client’s entire
financial position from budgeting, savings, investments, mortgages to tax planning. Some provide
holistic advice for a client’s entire affairs, while others specialise in certain areas. When providing
financial advice, a financial advisory firm may offer independent advice where they select products and
solutions from the best available in the market or they may be restricted to the products of one or just a
few product providers.

Typically, they do not manage investment portfolios for clients and instead select a discretionary fund
manager or a series of mutual funds to meet their clients’ needs. Increased competition, cost pressures
and the need to improve service offerings have, however, seen many financial advisory firms change
their business model to operate more like a typical wealth manager and manage a client’s assets
themselves or using an investment platform.

Commercial Banks
Banks typically operate wealth management divisions that offer the same range of services as financial
advisers to their mass market customers. They will often cover the same range of services and may be
either independent advisers or be restricted in the advice they offer.

Wealth Managers
There are a number of other firms that fall within the description of wealth managers, such as
stockbrokers and discretionary asset managers.

A stockbroker buys and sells securities on a stock exchange for its clients. Some stockbroking firms
restrict their activities to just this type of activity, but many in the retail field have for years managed
investment portfolios for clients and so moving into managing a client’s overall wealth position is a
natural extension.

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Discretionary asset managers manage portfolios on behalf of clients on either a discretionary or an
advisory basis. Many have been active in this field for years and so are a natural fit into the wealth
management structure and act as wealth managers or as discretionary asset managers for other firms.

Private Banking
Where financial advisers and commercial banks have typically catered for the mainstream retail customer
market, private banks have traditionally focused on the wealthier end of the market and restricted their
services to the wealthy or very wealthy.

This kind of service is usually offered to HNWIs on an individual bespoke basis. Originally, it just
covered banking services, but it now includes wealth advice and management. Private banks provide
a wide range of services for their clients, including wealth management, estate planning, tax planning,
insurance, lending and lines of credit. Their services are normally targeted at clients with a certain
minimum sum of investable cash, or minimum net wealth. Private banking is offered both by domestic
banks and by those operating offshore. In this context, offshore banking means banking in a different
jurisdiction from the client’s home country – usually one with a favourable tax regime.

Family Offices
A single-family office fulfils a role whereby it acts as an advisory and wealth manager to a single ultra-
high net worth family. A multi-family office helps multiple families with advice and wealth management
services and has become more popular recently as it allows for the cost sharing of investment and
consulting expenses.

A multi-family office will offer a range of services beyond investment advice and management, these can
include philanthropic advice, estate planning, tax services, insurance, household management, private
school arrangements and more. They often also provide services to family-owned businesses, advising
on issues such as governance and business management. Many major wealth management firms now
offer a boutique service to international family offices and private investment offices.

Private Investment Offices

Private investment offices are independent firms, usually structured as a partnership, where partners
invest their money alongside clients. Like multi-family offices, they tend to focus on the upper end of the
wealth scale. However, as the name suggests, they deal solely with the investment affairs of clients. They
offer asset allocation and bespoke investment management services which may be handled in-house
or by external advisers.

A private investment office manages the risks, conducts due diligence, prevents frauds, and monitors
asset allocation; it seeks long-term investment results for the families and its individuals members.
Again, they tend to remain independent as they seek best-of-breed solutions for a client.

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 The Financial Services Sector

1.3.3 Investment Management

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A wide range of firms provide wealth management services to clients, each of which specialise in
different segments of the market. Each of these firms will usually undertake portfolio or investment
management. Portfolio management is the management of an investment portfolio on behalf of a
private client or institution with a primary focus on meeting their investment objectives. Portfolio
management can be conducted on the following bases:

• Discretionary basis – where the portfolio manager makes investment decisions within parameters
agreed with the client.
• Non-discretionary or advisory basis – an investment manager (or via a client relationship
manager) would recommend an ongoing investment strategy and changes, but ultimately all the
decisions would need to be made by the client. Ultimately, it is the client leading the investment
management and just relying on the investment management firm for investment advice, execution
and settlement. The client is under no obligation to take this advice, although they do pay a fee for
this.

In both cases, the portfolio manager usually has the choice of investing directly in a range of asset
classes and/or indirectly via collective investment funds. Obviously, this is a simplified explanation – the
provision of a wealth management service would include understanding what the client requires, fact-
finding information, an understanding of the client’s risk tolerance and expected returns to meet certain
goals or future events and taking account of their investment timeline/horizon.

1.3.4 Platforms
Platforms are online services used by intermediaries, such as independent financial advisers, to view
and administer their clients’ investment portfolios. They offer a range of tools which allow advisers
to see and analyse a client’s overall portfolio and to choose products for them. As well as providing
facilities for investments to be bought and sold, platforms generally arrange custody for clients’ assets.

Platforms enable advisers to take a holistic view of the various assets that a client has in a variety
of accounts. Advisers also benefit from using these accounts to simplify and bring some level of
automation to their back office using internet technology.

Platform providers also make their services available direct to investors, and platforms earn their income
by charging for their services. The advantage of platforms for fund management groups is the ability of
the platform to distribute their products to financial advisers.

1.3.5 Wealth Management and Technology

Wealth management is going through a period of significant change – changing client needs, stricter
regulation, and technological development mean that the market is changing rapidly. Technology is
embedded in everything we do, changing the way we live, work, and experience the world. Advances
in technology have radically altered how we use the internet and communicate, and are disrupting
traditional industries.

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Financial technology (FinTech) is disrupting the traditional wealth management industry and requiring
the development of digital wealth services and platforms. People across many generations are now
digitally proficient and they desire constant access to sophisticated tools and services, and clients of
wealth management firms are no different. Below, we look at some of the developments affecting the
wealth management sector.

Communications
Today, we communicate with the latest apps around the globe or buy online based on the artificial
intelligence (AI) recommendations of digital providers. Wealth management clients are demanding what
is already a matter of fact in the retail industry, namely a full range of digital infrastructure capabilities.
For example, China’s fund management industry has gone from fledgling asset management to global
pioneer in a short number of years in terms of how fund purchases take place. In 2012, only a handful of
investors made fund purchases online, but according to a survey by the Asset Management Association
of China (AMAC) more than two-thirds now subscribe to funds via mobile phone apps.

Online Solutions
With the rise of digital wealth management solutions, many clients are taking their wealth management
experience online, resulting in many points of contact across multiple devices that need to be
streamlined. In-person contact and consistency remain important as well, as very few are comfortable
with an interaction model that is purely digital or online. This calls for improved connectivity between
the client and their adviser across all contact points. Additionally, with the interaction between clients
and wealth managers moving from voice conversations to messenger-based communications, this will
require an unanticipated level of compliance to monitor all interactions between advisers and clients.

Robo-Advice
Robo-advice is the application of technology to the process of providing financial advice, but without
the involvement of a financial adviser. Robo-advisers are able to provide wealth management advice
with the use of algorithms, and some are even able to make financial transactions on the client’s
behalf. A prospective investor enters data and financial information about themselves, and the system
then uses an algorithm to score the information and decide what investments should be chosen. The
system then presents an investment strategy, which is usually passively focused around index funds or
exchange-traded funds (ETFs), and allows easy implementation.

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 The Financial Services Sector

End of Chapter Questions

1
Think of an answer for each question and refer to the appropriate section for confirmation.

1. What role does the investment chain perform?

Answer reference: Section 1.1

2. How does a traditional bank differ from a mutually-owned savings institution?

Answer reference: Section 1.2.1

3. If an investment bank is trading in bonds, is it likely to operate in the wholesale or retail

market?
Answer reference: Section 1.2

4. Who are the typical customers of an investment bank?

Answer reference: Section 1.2.2

5. Which market participant is responsible for the safekeeping of assets?

Answer reference: Section 1.2.5

6. How does discretionary investment management differ from advisory investment

management?
Answer reference: Section 1.3.3

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