Advisory vs Discretionary investment management

The first step in establishing your investment strategy is determining your attitude to investment risk, which is defined by your objectives, tolerance for risk, capacity for loss and your time horizon.

Once this is defined, there are options with regards to the type of investment service you have, and the way in which your investment strategy is delivered to you.

The two main routes are advisory or discretionary. There are advantages and disadvantages for each method, and this article will explore each in turn with the aim to provide you with a steer towards the type of service which might be most appropriate for you.

What is discretionary investment management?

Discretionary investment management is where the investment manager - the person making decisions with regards to the most appropriate balance of investments in a portfolio - has discretion to make changes to your portfolio as and when they deem appropriate.

The investment manager does not need to write out to you each time they wish to make a change, they can simply make this change without prior approval. They are responsible for the day-to-day management of your portfolio and can make small or larger adjustments as they see fit.

Set parameters are agreed at the outset within which the discretionary investment manager can make their changes. This can also include specific investment mandates, for example, if your objective is to invest ethically, or to exclude exposure to certain stocks. 

What are the benefits of discretionary management?

The key advantage of discretionary management is that changes can be made in a timely manner, and thus investment decisions can be more reactive to changes in a market cycle.

Discretionary investment managers therefore have the means to make numerous changes throughout a year, ultimately meaning the strategy is nimbler and can provide opportunities for better risk-adjusted returns.

There is also scope to take larger calls with investment decisions, such as stock or asset class selection, as discretionary investment managers can make any change knowing this could easily be subsequently switched or remedied with minimal delay.

As an investor into a discretionary managed portfolio, whilst you would not be communicated to prior to each portfolio change, you would be kept up to date with investment changes once they have taken place, therefore it would not simply be an “out of sight, out of mind” approach.

What are the drawbacks to discretionary management? 

A key drawback of discretionary management is that there is a cost for this discretionary service, a charge which can vary widely from one discretionary manager to another.

Discretionary management can also be unsuitable for clients who hold assets in unwrapped investments and who need to manage their capital gains tax position more carefully.

The regular rebalances within a discretionary offering, which happen without prior client approval, could lead to an unwanted tax liability.  

For more information about the charges applied to our discretionary services, please contact us and we can provide you more information. 

What is an investment advisory service? 

An advisory service, requires the investor’s approval before any changes can be made. This offering can therefore be more appropriate for clients who wish to be actively involved in each investment decision as they happen or who wish to follow the transition of their portfolio more closely.

Managing large capital gains within a portfolio may also be a reason for opting for an advisory service, as the unrestricted rebalances via a discretionary approach may mean you lose control of managing a tax liability, as noted earlier.

Other reasons for choosing an advisory approach rather than discretionary could be due to legal constraints, such as a Lasting Power of Attorney which doesn’t include the necessary permissions to delegate investment management to a discretionary fund manager. 

Advisory shifts or rebalances take longer to implement than discretionary changes, and this therefore reduces the portfolio’s ability to be reactive to market events.

Each portfolio change is an administrative process, and it can take time to communicate changes to clients, receive client acceptance, and then administer any recommendation.

Advisory changes therefore typically happen less frequently, due to the scale of operation and administration involved at each event. For this reason, advisory management tends to involve longer investment positions or more conservative calls on asset classes or stocks, as any move is not as easy to rebalance once again as is possible via discretionary management.

As mentioned, part of the delay with advisory investment management can be attributed to the delay in clients responding to communication and accepting proposed changes.

Another key consideration therefore when making the decision between active and advisory management is an evaluation of your own time as a client to deal with and respond to investment recommendations.

If you are someone who leads a busy lifestyle and finds it difficult to keep on top of emails, for example, or someone who would simply prefer minimal administration, this can be a driver for a discretionary offering.

Which is the best option for you? 

The first port of call when determining your investment service is clarifying the type of ongoing relationship and involvement you wish to have with your strategy, whilst crucially, ensuring this is aligned to your specific objectives and circumstances.

How involved do you want to be with each investment decision? Would you prefer to leave the day-to-day management of your portfolio to a professional? Are you looking for an ongoing dialogue with regards to investment changes, or are you happy to leave decisions to a discretionary investment manager to make as needed, instead receiving retrospective updates?

Your adviser will be able to talk you through the merits and drawbacks of each option and bring to life any other personal considerations that might need to be accounted for.

If you would like to discuss the advisory and discretionary investment services or the offerings at TPO please get in touch to arrange a free consultation with an adviser.

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Please note: Investment returns are not guaranteed and you may get back less than originally invested.