Principal Risks and mitigations
The Group takes a cautious and pro-active approach to risk management, recognising the importance of understanding risks to the business, setting and monitoring risk appetite and implementing the systems and controls required to mitigate them. A Risk Register is maintained that captures the core risks inherent in our business and assesses how those risks are managed and mitigated, the key indicators that would suggest if the risk is likely to materialise together with an assessment that each risk may have on our regulatory capital.
Our Professional Indemnity Insurance covers us for losses, errors, and fraud. Our current assessment of our key operational risks and our risk management framework suggest that we are not at material risk of breaching our insurance limits.
In order to help identify, manage and control risk, Liontrust breaks it down into four categories. On the basis of disciplined risk assessment, the principal risks to the Group’s business are considered.
Credit risk covers the risk of loss due to a debtor’s inability to pay. The Liontrust Group maintains a liquidity policy document which identifies the credit risks that may affect any area of the business and details how these risks are monitored and controlled. These risks include: failure of banks / credit institution / significant counterparties; failure of a client to pay fees; failure of a client to pay funds for an investment; failure of a fund to pay redemption monies. Major counterparties are reviewed at least monthly and this covers, for each institution, agency ratings, interest rates currently offered and credit default swap spreads (where these measures are applicable or available). These are all indicators of any potential problems. If any such issues are identified the Group will take action to either move any functions or cash away from the institution or closely monitor the institution as per our counterparty selection and business continuity policies.
Market risk is the risk that the value of assets will decrease due to the change in value of the market risk factors. Common market risk factors include asset prices, interest rates, foreign exchange rates, and commodity prices. Liontrust as an investment management company is exposed to market risk in several forms, these include: seed investments; box management; funds under management; and management fee income.
Liontrust has only minor direct exposure to market risk through manager box positions and small holdings in the sub-funds of Liontrust Global Funds Plc which have been undertaken to aid incorporation and are redeemed when funds grow in size. The Group has a regular review process for any assets subject to market risk which identifies specific criteria to ensure that these remain within agreed limits.
Operational risk is the risk of loss resulting from inadequate or failed internal processes, people and systems, or from external events. The management of operational risk is formalised in a number of ways including risk assessments and scorecards, documented procedures and compliance manuals, a comprehensive compliance monitoring programme (both internal and external), issue tracking and a regular assessment of third party providers. Liontrust manages its operational risk with a framework based upon the Basel Committee on Banking Supervision’s paper “Sound Practices for the Management and Supervision of Operational Risk” using seven operational risk event types that may result in substantial losses including:
| Operational Risk Event Type
| Internal Fraud
|| Misappropriation of assets, tax evasion, intentional mismarking of positions, bribery
| External Fraud
|| Theft of information, hacking damage, third-party theft and forgery
| Employment Practices and Workplace Safety
|| Discrimination, workers’ compensation, employee health and safety
| Clients, Products, & Business Practice
|| Market manipulation, antitrust, improper trade, product defects, fiduciary breaches, account churning
| Damage to Physical Assets
|| Natural disasters, terrorism, vandalism
| Business Disruption & Systems Failures
|| Utility disruptions, software failures, hardware failures
| Execution, Delivery, & Process Management
|| Data entry errors, accounting errors, failed mandatory reporting, negligent loss of client assets
These risk event types are further broken down into 36 sub-categories. Each operational department undergoes a risk assessment for each of these risks to identify the likelihood of a risk materialising as well as the impact of the risk. The impact is the likely effect of a risk crystallising; these are two measures, the cost of a typical event as well as the cost of an extreme case. The output from the departmental risk assessments or risk registers are co-ordinated with the Group’s Risk Register to ensure that we are capturing evolving risks for the Group as they emerge. The risk assessment and risk scorecard can then be used to create risk maps which visually model and communicate risks and their trends.
As we outsource many of our labour intensive operational functions, we commit high levels of resource to the management of these third party providers. We work hard to ensure that the relationship is a collaborative one and that both parties are working together towards the same goals, via a dedicated relationship management team and through a comprehensive monitoring programme.
The key operational risks that have been identified as potentially having a significant impact on our business or capital are as follows:
- Trading errors
- Failure of key systems
- Failure of key supplier or outsource provider
- Corporate action errors
- Regulatory breaches
- Breach of mandate restrictions
- Business continuity failure
This year has seen significant change in the systems used by the Group with the implementation of new portfolio management, order management, risk and compliance systems. Any significant system change brings higher risk in the short term, but the new systems should reduce operational risks going forward.
Liontrust also commissions an external accountancy firm to report on internal controls in accordance with AAF 01/06.
The firm also faces other risks such as regulatory risk, key employee risk, market changes, mis-selling and the underperformance of one, or more, of the investment processes.
The regulatory environment that the Group operates in continues to grow more complex. There have been significant new legislative changes around the globe which have impacted both the Group and the investment vehicles operated by the Group. These changes bring additional, or increased, risks of errors or omissions which can result in financial or other penalties and could result in a loss of confidence by our clients. Regulatory changes may also affect the products and services the Group offers, to whom or where it may offer them and the fees and charges it is able to charge. Liontrust’s Compliance department operates a comprehensive compliance monitoring programme to confirm regulatory obligations are met and works with industry bodies, lawyers and consultants to ensure all regulatory change is appropriately managed.
Liontrust operates within a highly competitive environment with both local and global businesses, many of which have greater scale and resources. The changes to the regulatory and business landscape have resulted in a greater focus on fees & charges, a growing importance of brand & marketing and distributor relationships. Failure to compete effectively in this environment may result in loss of existing clients and a reduced opportunity to capture new business which may have a material adverse impact on the Group’s financial wellbeing and growth.
Key employee risk
People are a key part of our business and the stability of our investment and operational expertise is critical to the success of the business. The Group takes appropriate steps to manage expectations and minimise the loss of good quality staff. Any departure of significant personnel may result in a loss of funds under management, especially the loss of one of our fund management teams. Liontrust believes building and maintaining our distinct culture is key to the future success of our business and the engagement and retention of its staff, therefore, we invest significantly in our people, including through training and qualifications.
The development of our business and increasing the diversification of our fund management talent is a core objective of the Group and as recently demonstrated, the business is willing to finance acquisitions, etc. to achieve this diversification where it is prudent to do so while leaving sufficient capital to operate the business.
The risk of investment performance leading to customer loss
Liontrust provides specialist, actively managed portfolios to its clients aiming to produce good relative investment returns over the medium to long term. There may be periods where the portfolios have a weaker performance record and clients may redeem their investments during these periods potentially impacting the Group’s earnings. It is also harder to attract new clients during periods of under-performance in a fund, or across the Group’s portfolios which may impact the ability for the Group to grow.
Suitability and Conduct risk
It is a key aim of the Group to ensure our clients and customers understand the products and services we offer and for us to ensure that the products deliver what a client expects. All our investment processes are fully documented, which enables clients to understand clearly how we manage assets. For private investors investing through intermediaries, the process documents are supplemented by simplified monthly fund factsheets, the key investor information document and other reports and marketing literature available via the website or direct from us, which are clear and concise. For our institutional clients, we produce quarterly investment commentaries and regular detailed reports. Ensuring that our clients understand the product is a core element in treating them fairly. We believe our documented processes, detailed reports and literature reduce the likelihood of a product either being misunderstood or not delivering the appropriate customer outcomes, this may also reduce the risk of client losses in the event of portfolio underperformance.
Client Concentration and the risk of redemptions at short notice
Liontrust has several large, key clients and relationships. Should a large client leave (or conversely a new large client be acquired) there is a risk that earnings may be impacted. The largest client represents approximately 5% of the Group’s assets under management and the concentration is lower than this by revenue. Clients are also able to withdraw their assets at short notice. The retail funds have daily liquidity and most institutional mandates have no lock in periods or liquidity constraints. This may mean that in times of crisis assets under management may fall quickly increasing the potential volatility of earnings.