Funds, fees and the future
So you’re an investment manager – would you work for free? – nothing, nada, zilch, zero?
Fidelity grabbed headlines recently with a zero charge on fund management – granted it was for a basic index product where fees were minimal anyway and stock lending can provide the manager with an income. But it was another milestone in a trend.
Fees are falling.
There’s nothing new in this. In the UK, for a typical equity fund the annual management charge (AMC) has fallen by 22% over the last 5 years. Costs matter – the data shows that for both active and passive funds, the cheapest 20% of funds attract the vast bulk of flows.
The reasons for cost compression are well-known:
– Greater use of cheaper options such as index funds and ETFs
– Demand for transparency from consumers, intermediaries and critically regulators
– Auto-enrollment with its cap on charges will heighten the use of “cheaper” options in the mix
– Value for money issues in a world of lower and more volatile returns.
The FCA in the UK has highlighted the issue of value for money in what asset management companies charge and the Central Bank here has written extensively on the complexity of performance fees and issues around their calculation.
For the majority of investors still however the issue is the overall charge as distinct from performance fee calculations. And the issue is very much about value for money.
Asset management is a very attractive business with operating margins in the 30% range (source: Bernstein) with reasonably assured growth into the future and through the cycle. Barriers to entry are very much in the regulation and reputation spheres. It will continue to attract attention from would-be players from other sectors. Ali Baba through Ant Financial is now offering investment product. It will also attract growing attention from regulators.
There are very few businesses where you would pay the same price irrespective of outcome (either relative or absolute). There needs to be a greater link between charges and outcome – certainly in actively managed funds. Of course fund returns depend on what markets do but they are also made up of thousands of decisions (asset allocation, stock selection, etc.) made by the manager and ideally there should be some evidence of “skin in the game”.
Should remuneration be based wholly on investment outcome in any given year? I’d argue not – asset management businesses need some predictability of cash-flow and profitability so that they can plan ahead, invest in the business and resource it properly to provide the required outcomes in a compliant and sustainable structure.
Bottom line: Asset Management charges will continue to fall and if today you’re paying the same as you were 5 years ago, you’re probably paying too much.
Tradewinds 