There has been a great deal of discussion in the asset management industry over the impact of the retail distribution review (RDR) on fund fees.
In recent weeks Fidelity and Vanguard have called for greater transparency over fees, with Gary Shaughnessy, the managing director of Fidelity Worldwide Investment UK, labelling the present system “selective and partial”.
Few would argue against lower fees in the abstract but the question not posed by the current debate is whether trimming 10, 20 or 30 basis points off the cost of investing is a significant concern for the adviser community. Indeed, the one-sided nature of the debate should give people pause as some of the most successful sections of the investment community have historically charged fees well in excess of those on an average open-ended fund.
“Where funds are concerned, I have always felt that there has been an unhealthy focus on fees,” says Tim Cockerill, the head of collectives research at Rowan Dartington and FE Adviser Fund Index (AFI) panellist.
“The key thing is doing your best to find the best possible investment. I don’t think you should be overly concerned about fees.”
Certainly, historical precedent would suggest that investors are far more responsive to performance than to fees. (AFI continues below)
This could at least in part be explained by the fact that it was difficult for the end consumer to unravel the way in which the fee structure was broken down between adviser, product provider and platform.
The RDR is aimed at addressing this, and with the ban on trail commission the industry could see a greater degree of competition over fund fees, according to Simon Ellis, the managing director of Legal & General Investments.
“If we look at the history of annual management fees, it has clearly not been a very important criterion for clients,” says Ellis.
“As a consequence of RDR the industry’s business model has effectively doubled in price and we are going to have to get new structures.”
Both Cockerill and Ellis say it is unlikely there will ever be a harmonising of fund charges across the industry, and both question whether this would even be a desirable outcome.
In their view, paying extra for superior products is part of people’s everyday experience and in a competitive market it is reasonable to expect that some products will be able to charge more for their services.
The problem is that if fees become the overwhelming concern of legislation, some products might end up being denied to retail investors.
Under these circumstances, cost may be less of a pressing issue than transparency as it is the latter than allows investors to make an informed choice.
“I think it’s predominantly a retail problem,” says Cockerill. “Over the years I’ve had many tracker versus active funds debates.
“It usually focuses on primary cost and not performance goals, which could prove a race to the bottom both for cost and quality.”
There is little doubt that the funds that will suffer most from the greater scrutiny facilitated by the RDR will be those perennial underperformers.
Whether some of these will start trying to compensate for poor performance by lowering fees is yet to be seen, but it should be a cause for concern.
Furthermore, the debate so far has conveniently ignored the difference between annual management fees based on a percentage of the assets held and performance fees. It is logical that price competition would see annual management fees come down as end consumers look more closely at their costs, but an incentive tied to performance could align the interests of both parties.
There seems little reason why, in a post-RDR environment, performance fees in retail products could not move higher.
Given the increasing complexity of products in the retail market, proven track records and particular specialities are likely to become ever more sought after. Rather than simply creaming off annual management fees from these “star managers”, however, perhaps a model that amply rewards them according to performance would be a fairer one.
“It would be interesting to start seeing funds with low base fees but a performance fee laid over it,” says Cockerill.
This may not prove the only model for retail funds, but for those higher-octane products it might be sensible to bring manager remuneration in line with actual returns to investors.
Ellis, however, says that after RDR he can see a divide opening up in the market where assets currently held in weaker-performing active managed funds will drift towards passive funds.
“If people do start chasing fees, I think there will be a lot of money moving into passive. The dog funds will become zombies,” he says.
Many of these funds would then have to be closed or their assets merged into more successful products, providing a spring clean for the asset management industry that some have claimed is long overdue.
RDR could also provide a sea-change in the balance between passive and active investments, with many advisers effectively moving to a passive-only approach.
Whether Ellis is right – and he will no doubt be hoping he is, with Legal & General’s passive funds business worth over £232 billion – it seems the fees debate is already leaving behind the very people it was aimed at.
Advisers and their clients can decide for themselves what does and does not constitute a fair price for the service they receive.
Because of this, plurality, rather than uniformity, may well be the way forward, providing it is also matched with greater transparency. This particularly ought to be the case, given the additional qualification requirements for advisers.