Frydenberg's listed investment conflicts

Christopher Joye

Coolabah Capital

Today I explain how in the shadow of the banking royal commission an emotive war has erupted over whether financial advisers should be allowed to accept large kick-backs, or selling fees, from fund managers to push complex listed investment products to retail clients. And this is proving to be an existential battle for Treasurer Josh Frydenberg as the Labor Party has him firmly in their cross-hairs. Read the full column here or AFR subs can click here. Excerpt only enclosed:

“Have the Coalition learnt nothing from the banking royal commission,” asks Stephen Jones, the shadow minister for financial services. “Treasurer Frydenberg must act to close the loophole the Coalition created in the financial protection laws, which leave billions of dollars in savings at risk from poor financial advice,” he says.

“The Treasurer must also explain why he has ignored advice from the corporate regulator to act on the high-risk investment schemes which are being promoted to retail investors because of the loophole.”

Jones was referring to remarkable revelations from The Australian Financial Review’s John Kehoe, who through a freedom of information (FOI) search forced the Australian Securities & Investments Commission (ASIC) to disclose that it had advised the Coalition in 2013 and again in 2019 to shutter the loophole...

The battle over conflicted advice pits two warring camps. In one we have incredibly powerful local and global fund managers that are exploiting the loophole to raise tens of billions of dollars in permanent capital at high fees from an exclusively non-institutional mum and dad clientele.

They are locked arm-in-arm with a minority—say 10 per cent to 30 per cent—of advisers that accept selling fees despite the practice being widely regarded as inducing conflicts. In some cases, the fees are so significant they account for most of the advisers’ profits.

The fund managers have created a new lobby group to advance their interests, The Listed Investment Companies and Trusts Association (LICAT), which has retained influential lobbyists in Canberra to pressure Frydenberg, and experts to write articles arguing concerns around mis-selling crises are “grossly exaggerated”.

In 2019 the kick-back camp were confident Frydenberg and his advisers, who are all ex bankers, would do nothing to close the loophole. This is because despite ASIC’s advice to Treasury in August 2019 that it could not rationalise “maintaining the stamping fee exemption from conflicted remuneration for these products”, Frydenberg and his advisers were signalling to industry and media that ASIC had told them there were no issues nor any need for legislative change.

This message was even delivered to the Labor Party in late 2019 when it privately offered Frydenberg’s office the opportunity to fast-track closure of the FOFA loophole without unnecessary politicking.

Notwithstanding the AFR’s January revelation that ASIC had, in fact, repeatedly advised Frydenberg’s department to close the loophole, the kick-back-camp remain quietly confident Frydenberg will continue to do nothing...

In the rival “kill-the-kick-back camp” one finds: the majority of financial advisers, who are terrified these conflicts will once again tarnish their industry; the corporate cop, ASIC, which is clearly not going to accept being made a scapegoat for politicians protecting their top-end-of-town mates; and independent investors, like this columnist, who fear that blow-ups will end up badly hurting everyone.

Will Hamilton, who in December was appointed by Frydenberg’s department as a Director to the Financial Adviser Standards and Ethics Authority (FASEA), says “we are paid by our clients through an advice fee for the work that we do for them”. “The LIC/LIT stamping, or selling, fee reverses this and results in the advisor pushing product on behalf of a fund manager as they are being paid this fee by them. In this way, the structure is fundamentally flawed.”

Many question what is motivating Frydenberg's inertia. "Are we still debating the merits of conflict-free advice ten years after Storm Financial and six years after Banking Bad,” asks Jason Coggins, the head of fund manager research at Koda, which has more than $6 billion under advice.

“Let’s be clear, this is not an anti-LIC/LIT crusade. It is calling out all conflicts,” Coggins says. “Conflicts can’t be ‘managed’. That’s an oxymoron. Yes, most try and do the right thing. But create the option to do the wrong thing and a minority will prioritise their self-interest ahead of others. The industry does not need lobbyists to tell us what is right or wrong. It’s simple: work actively (and only) for the client."

Investment consultant, Jerome Lander, previously chief investment officer of WorkCover NSW, says the debate is creating demarcations between advisers. “One could argue one of the easy "tells" is whether the adviser has frequently invested you, the client, in [new] LICs/LITs at issue,” he says given the fact that almost 80 per cent end up trading at an average 9 per cent discount to their net tangible assets (NTA).

“It is an easy test and I would personally be very suspicious of any adviser who has done that and at the very least want to know why they did it, and/or look for another adviser,” he says.

Coggins agrees, citing the example of a recent mega credit LIT that raised vast sums with “nice fat commissions”. “If you genuinely liked the manager, you could buy a similar strategy in the US with 20 times the liquidity at a 30 per cent discount to NAV”. “Good luck to the brokers that pumped hundreds of millions of dollars into the Australian LIT, particularly if they ever need to get out on mass,” he says. Coggins worries that this could be viewed as “unconscionable conduct”.

Read the full column here.

Disclaimer: This information has been prepared by Smarter Money Investments Pty Ltd. It is general information only and is not intended to provide you with financial advice. You should not rely on any information herein in making any investment decisions. To the extent permitted by law, no liability is accepted for any loss or damage as a result of any reliance on this information. Past performance is not an indicator of nor assures any future returns or risks. Smarter Money Investments Pty Limited (ACN 153 555 867) is authorised representative #000414337 of Coolabah Capital Institutional Investments Pty Ltd, which holds Australian Financial Services Licence No. 482238 and authorised representative #001277030 of EQT Responsible Entity Services Ltd that holds Australian Financial Services Licence No. 223271.

Christopher Joye
Portfolio Manager & Chief Investment Officer
Coolabah Capital

Chris co-founded Coolabah in 2011, which today runs over $8 billion with a team of 26 executives focussed on generating credit alpha from mispricings across fixed-income markets. In 2019, Chris was selected as one of FE fundinfo’s Top 10 “Alpha...

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