Types of Investment Services
“Investment services” is a general term used to describe a whole range of activities related to investments in financial instruments. Typically, the most common forms of investment services are the following:
- The provision of investment advice whereby investors are provided with personal recommendations on the investments products that would be suitable for them (also known as an advisory service);The purchase or sale of financial products on an execution only basis (therefore without receiving investment advice); or
- The provision of portfolio management services (collective or discretionary).
The below links provide an explanation of the different types of investment services which may be provided by licensed entities. It also explains some of the requirements these entities need to be in line with in terms of the revised Markets in Financial Instruments Directive known as MiFID II.
One should always check that such entity is in fact licensed to provide investment services before entering into an agreement with such entity. This information is provided in the Financial Services Register. Investment services should only be sought from licensed entities.
What is an Investment Advice?
An investment advice is deemed to be the act of providing personal recommendations to a client or potential client on one or more transactions relating to financial instruments.
When providing investment advice, firms are required to recommend to the client (or potential client) the financial instruments that are suitable for him/her and, in particular, are in accordance with the client`s risk tolerance and ability to bear losses.
The term ‘advice’ means a ‘recommendation of what you should do’. For example, a recommendation to buy or sell a particular investment. The recommendation is personal to the client and based on his/her specific circumstances and financial objectives.
Investment advice is different from guidance that includes information about different types of investments or general principles without recommending a specific course of action or giving a personal recommendation.
What is an Independent Advice?
Before providing advice, an investment firm must inform a client whether this advice is being provided on an independent or a non-independent basis.
Firms that provide investment advice on an independent basis are not permitted to retain any monetary or non-monetary benefit (inducements) paid by a third party – or if they accept such a benefit, they must transfer it to their client – and are required to include a sufficiently wide and diverse range of financial instruments offered by various providers in the independent advice. Independent advice may not be limited to financial instruments that are issued or provided by the investment firm itself or related entities. If the advice does not satisfy these requirements, then the advice is not independent.
What is a Non-Advisory Service?
As we have described, when a firm is giving you investment advice or is managing your investments, it must ensure that the product is suitable for you.
When you are not receiving investment advice from a firm, or not relying on a firm to manage your investments, you will generally be expected to take a greater degree of responsibility for your decisions. When you want a firm simply to buy or sell an investment without providing you with investment advice or portfolio management services, different requirements apply. In such case, the licensed entity must assess whether the client has the knowledge and experience to invest in such product and the test to be carried out is known as the Appropriateness test.
The test aims to protect those who may not understand or be aware of the implications and level of risk involved in a transaction, particularly where the products are 'complex' or where you have not taken the initiative to carry out the transaction.
Examples of 'complex' financial products include:
Options, futures, swaps, and other derivatives
Financial contracts for differences
These products are categorised as being complex given that the characteristics of such product would not be understood by the average investor and therefore one needs to have a certain degree of knowledge and experience in the investments field in order to understand the risks of such products.
Examples of 'non-complex' financial products include:
Shares, bonds or other forms of securitised debt admitted to trading on a regulated market
Money market instruments
Units in certain investment funds
The above are the ‘traditional’ financial instruments the average investor would typically invest in.
These examples are by no means exhaustive and merely indicative.
As part of the Appropriateness test, you are likely to be asked questions about your investment knowledge and experience.
If the firm concludes that you have the necessary knowledge and experience to understand the risks involved, then the firm may simply go ahead with the transaction.
If the firm concludes that you do not have the necessary knowledge and experience, or you have not supplied enough information to enable it to reach a conclusion, then you will receive a warning from the firm saying that either the firm does not regard the proposed transaction as appropriate or that the information is not enough to enable it to determine whether the financial instrument is appropriate or not. If you insist on going ahead with the transaction, you must accept the risk and be provided with a risk warning.
Trading in Products without Investment Advice
The Appropriateness test does not apply in the case of some kinds of ‘non-advisory’ transactions. This service can be described as Execution-only. The circumstances where the test does not apply are as follows:
- the product involved does not have to be a ‘complex’ product;
- You have chosen to contact the firm to carry out your transaction (i.e. at your own initiative). This means that you are not responding to a personalised approach to you from the firm which was intended to influence you in respect of a specific product or transaction (for example in certain situations when you are buying shares on line).
You will be warned that the firm is not exercising any judgement on your behalf.
In such cases, you do not have to answer any questions about your investment knowledge and experience, financial situation or investment objectives. The firm may of course ask you questions for other purposes, particularly if you are a new customer.