People most associate the term ‘brave new world’ with Aldous Huxley’s famous novel, but these words were originally spoken by Miranda, in The Tempest.
This relationship seems appropriate as there is definitely a storm raging on the topic of fund charges, although it could also be argued that there is too much focus on fees and that it’s all a storm in a teacup.
Since the RDR, investment companies have faced more competitive charges from open-ended funds. The vehicles’ fees have been amended as a result, with more than a third of the sector reducing management fees, abolishing performance charges and introducing tiered fees.
For example, the average investment company had an ongoing charge, including performance fees, of 1.74 per cent in 2012, and this has since decreased to 1.52 per cent in 2017. The number of companies paying performance fees has also fallen, from 161 in 2012 to 105 firms this year.
Canaccord Genuity analyst Alan Brierley has been studying the comparative case for investment companies versus open-ended funds. He examined ‘sister’ funds, directly comparable investment companies and open-ended funds with the same manager, philosophy and similar portfolio. The trusts outperformed their open-ended counterparts in 84 per cent of cases, based on net asset value total returns over five years.
However, 55 per cent of open-ended funds had lower ongoing charges than the sister investment company. Consequently, 45 per cent of trusts had lower outgoing charges than their related open-ended funds.
Many more investment companies outperformed their open-ended sister funds, but slightly more investment companies had higher charges then their open-ended counterparts. Clearly there are other influences, apart from charges, contributing to the trusts’ performances, including the closed-ended structure and gearing.
The FCA asset management market study interim report, which focused only on open-ended funds, has added to the current debate on charges, increasing the wind speed in this storm. The study found that charges for open-ended funds had not come down over the past 10 years, while annual management charges (AMCs) clustered around 0.75 and 1 per cent.
Also, charges did not fall as the fund sizes increased, so economies of scale were not passed on to investors. The FCA’s evidence suggested that actively managed funds did not outperform their benchmarks after costs.
In contrast, AIC research, included in its response to the FCA paper, shows a wide spectrum of fees for equity investment companies, with 52 per cent of the firms having AMCs below 0.75 per cent and very few setting the fees at 0.75 or 1 per cent.
It’s also interesting that 22 per cent of investment companies investing in equities have introduced tiered fees. For example, Scottish Mortgage – the largest member investment company at £5.2bn – has introduced a tiered fee of 0.3 per cent up to £4bn of assets, falling to 0.25 per cent for assets above this level.
There is a strong case for the FCA’s study to look beyond charges and the issues facing open-ended funds when considering how greater competition could be stimulated in the asset management industry. There is evidence that active management in the investment company sector, net of charges, delivers solid performances.