Managing your investments: Is it better to go through the ‘Advice’ or ‘Discretionary’ route?

Dubai: A Discretionary Fund Manager or “DFM” is someone who exercises discretion to buy and sell investments on your behalf.

This is in comparison to an advisory fund manager or “AFM”, whose services allow you to consult with the fund manager before they make changes to your investment portfolios.

When it comes to a discretionary fund, decisions are usually made by a portfolio manager who has the final say on which individual securities to hold in a portfolio.

Highly adapted to your needs

A discretionary fund is considered a traditional way of managing investments, usually with an individual investment manager responsible for your investment decisions.

Essentially, a discretionary fund management service can provide highly personalized investment portfolios based on your personal circumstances, goals, and risk appetite.

This, as mentioned earlier, contrasts with a consultancy engagement where you as the client are asked to approve recommendations in advance.

A discretionary fund manager or “DFM” is someone who exercises discretion to buy and sell investments on your behalf.

A high level of trust is required

Since discretionary investment managers invest your money at their discretion, a high level of trust and ethical considerations must be taken into account in such type of investment management style.

Additionally, discretionary investment managers must respond to their clients if they underperform, as they will charge clients a fee for their services.

Advice versus discretion: risks, benefits

While some experts suggest going the “advisory” route, it turns out that the main positive factor is that this method is very engaging for clients, meaning they are much more interactive with their respective investors.

Although this promotes a relatively better relationship between the end user and the manager, it is often seen as an option with lower business risk, as each portfolio adjustment is made with the client’s approval, i.e. say your nod.

The disadvantages of a fund manager who provides advisory services are twofold. The risk for the advisor, and perhaps also for you as a client, is that the advisor will have to contact you frequently to approve adjustments to your portfolio.

This can lead to difficulties if you, as the client, are not in the same time zone as the advisor, or cannot be contacted, or simply do not want to think about portfolio adjustments at any given time.

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The first thing to realize is that money management is not the scary monster you imagine.
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When it comes to discretionary investing, the obvious advantages are that the advisor or portfolio manager can take advantage of short-term market opportunities, making quick profits as the manager hears it.

A discretionary investment manager may be able to gain an added advantage by managing multiple portfolios at the same time and reduce or eliminate workflows for frequent client communications or confirmations when adjusting portfolios.

A downside is that in many countries the regulatory overhead and approvals to offer a discretionary service to investors are sometimes quite difficult in terms of licensing approvals, education and experience requirements and oftentimes d capital adequacy requirements of the company.

What are the capital adequacy requirements for an investment manager?

A capital requirement is the amount of capital that a financial institution like an investment manager must have, as required by its financial regulator.

Advisory or discretionary: which is better?

Non-discretionary or advisory investment managers are characterized by conducting all research and recommendations in the investment process. However, you retain the right to make the final investment decision as a client.

It’s effective because investment managers don’t have to bear the risk of making the wrong decision and you retain responsibility for the decisions made while continuing to receive professional research and advice.

However, the caveat is that decisions can be made much more slowly and not efficiently if the final decision is left to you as the customer.

Stock market dirhams

Non-discretionary or advisory investment managers are characterized by conducting all research and recommendations in the investment process.

Therefore, discretionary investment management can be more effective in executing investment strategies in a timely manner since you do not need to be consulted before making an investment decision.

However, keep in mind that discretionary investment managers do not have full discretion in making your investment decisions. Managers must make decisions based on clients’ wishes, which are usually described in an investment policy statement (IPS).

What is an Investment Policy Statement (IPS)?

The IPS is a detailed document that outlines clients’ investment preferences and constraints and is highlighted by the client’s risk-return profile. The document will be flexible over time, since customer preferences and tolerances may dynamically change over time.

Key points to remember

• Advisory management services allow you to retain full control of your portfolios and make your own investment decisions. The role of the investment advisor is above all to offer informed advice.

• While a wealth manager who provides advisory services consults with you as a client and gives you advice, you are the ones who make the ultimate buying and selling decisions. In advisory management, the client makes the ultimate buying and selling decisions.

• Discretionary investment management works in the opposite direction. In this discipline, the professional wealth manager has more control over investment decisions.

• For you as a client, the discretionary approach is more passive and suitable if you do not have the experience or the time to actively manage your own portfolios.

• Discretionary investment management can only be performed by highly experienced professionals, many of whom hold the Chartered Financial Analyst (CFA) designation.

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Discretionary investment management can only be carried out by highly experienced professionals.

While advisory managers always spend time understanding your goals and assets, it’s often not as thorough a process as with discretionary managers.

This gives the discretionary manager a theoretical advantage over his rival. However, using a discretionary investment manager comes with three main risks, which are:

1. Discretionary investment managers charge a fee for their services, and this takes a portion of the final return a client receives.

2. Due to the unpredictability of financial markets, it is entirely possible that the investment manager will actually underperform its benchmark.

3. Discretionary investments require absolute confidence in the investment manager to make the best investment decision. However, many clients may become scared when they begin to lose money and want to withdraw their capital from the discretionary investment manager, which limits the manager’s ability to execute their strategies.

So, if you choose to choose a discretionary investment manager, be aware of the above risks.