A Trowbridge Too Far

The recent publication of the Trowbridge Report in Australia contains proposals that are destructive, and anti-competitive. Creating an extreme position on compensation structures may just be a negotiating tactic, but the likely outcome of adopting the proposed measures will have a negative impact on the personal risk protection industry, and disadvantage the wider Australian community to the detriment of the public purse, enterprise, families, and individual Australians.life-insurance-movement-details

This article is not written in support of high commission levels, nor does it seek to justify the various reward structures that prevail in Australia and New Zealand.

Granted NZ has the highest commission levels in the OECD, but so what? Our rugby team is by far the best around and there is no suggestion that we should compromise our quality to be like the rest.

NZ is a small economy and the ferocity of competition in the private sector has benefited consumers in many areas – some more than others. In the main, financial advisers in NZ serve the public well – consider the workload of the dispute resolution providers, the FMA, and the courts in relation to actions taken against registered financial advisers.

So all stakeholders in the NZ financial services industry should strenuously resist the recommendations of the Trowbridge report.

In Australia, the prescriptive regime and adversarial nature of the regulatory bodies has merely driven dishonest practitioners to invent ever more ingenious ways of bilking the public. But if you think the Australian regime has been effective in making markets more secure for Australian citizens, ask the victims of the recent Commonwealth Bank and Macquarie Bank scandals how they feel.

And don’t think Australia escaped the GFC unscathed. Capital + Merchant, for example, had their Australian operation in full swing under the Cymbis Finance banner, and stitched up Australian citizens just as effectively as did their NZ entity.

But ignoring the effectiveness of the Australian regulatory environment for now, and looking at the lead up to the Trowbridge Report, there is a discernable pattern of behavior that should be of deep concern to all NZ financial services industry stakeholders.

ASIC produced “Report 407 – Review of the financial advice industry’s implementation of the FOFA reforms” in September 2014. The research for the report was conducted by ASIC between September 2013 and July 2014.

From the arbitrarily filtered research sample of 749, a mere 80 licensees were approached, and only 60 participated - out of a total of 5,100.

These licensees embrace an individual adviser population of 9,918.

To measure accuracy and validity, researchers use confidence interval calculations. These are really only valid when a truly random sample of the relevant population is accessible.

However, if we give ASIC’s methodology the benefit of the doubt for illustration purposes, to be confident that 95% of the licensees would produce the same results (with a 5% margin of error), the sample size would need to be 357.asic-logo

The sample selected produces a margin of error of 12.5% - the generally accepted margin is between 4% and 8%.

This fundamental flaw in the research leaves the statistical integrity of the research open to question.

There are therefore aspects of the representative nature of the research that are at best suspect, at worst dubious and/or statistically not significant, accurate, valid, or reliable.

ASIC published “Report 413 - Review of retail life insurance advice” in October 2014.

The research concluded that 37% of the 202 files reviewed from 7 licensees, representing a total adviser sample of 79 individuals, contained advice that failed to meet the relevant legal standard.

In this research, the concepts of accuracy, reliability, and statistical significance based on random sampling were completely abandoned.

Taking 202 files from 79 advisers (out of a total population of 18,000 according to the Ripoll Report), representing 7 licensees (out of a total of 5,100 on the ASIC database), is quite simply of no statistical significance.

Put simply, there is no statistical evidence to suggest that the Australian financial advisory industry indulges in widespread malpractice.

Subsequently, a Life Insurance and Advice Working Group (LIWAG) created by the Association of Financial Advisers (AFA) and the Financial Services Council (FSC) was instructed to develop an industry response.

It should be pointed out that not all submissions to the LIAWG were made public – whither transparency?

Nevertheless, there are parties that have gleefully alit upon ASIC’s potentially flawed research.

The Trowbridge Report from the LIWAG is a response to the blatant political pressure being exerted to “do something”.

A recent proclamation by Assistant Treasurer, Josh Frydenberg, threatening Federal Government intervention is evidence of this pressure. Of course, Mr. Frydenberg’s reference to “poor levels of compliance highlighted by ASIC” stems from the flawed research previously mentioned.

So the “something” that Trowbridge has taken aim at is the commission levels available to financial advisers recommending life risk products to clients.

Despite the presence of risk product options on all Superannuation and Industry platforms, Australians remain steadfastly underinsured, as reported by KPMG in 2014 and by Swiss Re in 2007. Adopting the measures recommended by Trowbridge will render many business models uneconomic, cause a move away from non-aligned advice, and bolster the market position of vertically integrated organisations that both manufacture and distribute risk products.

Consumers will suffer a reduction in choice, access, and availability of any semblance of impartial advice as these vertical organisations dominate the market by pushing their in-house proprietary products – “in the best interests of the client”.

Whatever path Australia has chosen, NZ should studiously avoid doing the same.

Kiwis are likewise underinsured according to Mike Naylor’s excellent 2013 research study into the subject, and a reduction in the non-aligned intermediary market reflected in a Trowbridge-style mandatory compensation structure will only cause the low levels of financial protection in the community to reduce further.

So there are obvious consequences for consumers in diluting the viability of some adviser business models.

But beyond this, Trowbridge-style measures are anti-competitive as they penalize cost-efficient organisations that can allocate expense to attracting market share by the use of leading-edge technology and product development.

If a product provider’s business model has a heavy new business dependency (and which life company doesn’t?) why should they be prevented from allocating expense within the premium structure to stimulate the required new business flow?

If pricing and product quality becomes uncompetitive, the market will react accordingly - as it did in the 1990’s when the market share previously enjoyed by the mutual life offices was effectively challenged by Sovereign’s arrival and subsequent success.

This success was fuelled by (then) contemporary product design, innovative technology, and an unshakable belief that great service would bring great results.

We gave advisers and their clients a choice, something the mutual life offices singularly avoided doing at the time. And ultimately, the mutual companies paid the price - consumer sovereignty prevailed. So in addition to exacerbating the underinsurance problem in NZ, the idea of mandated commission levels works against the consumer.

But in closing – may I offer a word of warning. Regulators talk to each other, and there is no doubt that our FMA will be tracking events over the ditch. The “Strategic Risk Outlook 2015” document issued by the FMA in December 2015 contains a specific sentence - “Insurance mis-selling will be included as a key monitoring theme for our team”.

Adviser organisations and companies that draw their support from advisers need to declare against such ill-considered measures, and steer the industry away from the perilously thin ground upon which our Australian colleagues currently stand.