IMA admits bundled research costs help AMCs appear artificially low

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Fund managers pay for research through bundled commission to brokers rather than directly because it makes their annual management charges appear lower, admits the Investment Management Association.

Liz Rae, senior adviser, investment and markets at the Investment Management Association also told sister title Corporate Adviser that it was unlikely people would buy much of the research that is paid for through commissions if fund managers had to pay for it directly.


Asked why asset managers pay for research through commission, which does not form part of a funds annual management charge or total expense ratio, rather than directly from their own accounts, which would show up on a fund’s AMC and TER, she said: “The pension funds won’t allow the managers to raise their charges above a certain point. The pension fund knows they are paying for the research and the quid pro quo is that the fee is not high. It is the same cost.
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It is a throwback from fixed commissions of the past when everyone charged the same, so some players offered research to differentiate themselves. It has all remained bundled ever since. If managers were to pay for research out of their P&L then they would have to put up their clients’ fees. This would be a difficult negotiation to have with clients.”

Paying for research bundled up with charges for execution of share dealing trades is not illegal. In 2005 the FSA reviewed so-called ‘soft commissions’ and allowed payment for research through bundled broker charges to fall within its rules.
But an FSA paper published earlier this month, Conflicts of interest between asset managers and their customers: identifying and mitigating the risks, found most fund managers did not exercise the same standards of control over research bought through commission paid to their brokers as they did when they paid for it out of their own pockets.


The regulator said many fund managers had failed to establish an adequate framework for identifying and managing conflicts of interests. It also identified breaches of detailed rules governing the use of customers’ commissions and the fair allocation of trades between customers.

Some firms did not observe requirements to disclose to customers details of commission payments. Payments for research add up to several basis points on the price of an actively managed fund. Standard Life, one of the few providers to be transparent about what its research charges are, says of commission charges add up to an average of around 13 basis points on its actively managed funds, of which around half goes towards paying for research.


Brokers typically hold onto the research element of their share dealing charge on their fund manager client’s behalf and apportion it to their chosen research provider. The FSA’s report says the cost of research paid for in this way is not scrutinised in the same way as money spent directly by fund managers on research, raising accusations of a ‘slush fund’ approach to research in the investment management industry.


Asked why research charges should not simply be unbundled, and paid for separately by the fund manager, Rae said: “If the broker priced it, the chances are not many people would buy it.


“If people do not produce research you have inefficient pricing information. So it is better to have too much rather than too little.


“The new disclosure regime means clients are told what research the manager is buying.”