A combination of regulatory change, the rise of passive investment products and the entrance of private equity into the wealth management industry have combined to create a world where vastly more investment capital is in the hands of a comparatively smaller number of fund buyers.
The consequences of this for the fund houses are that it has become harder to launch new funds, while for advisers and their clients, the risk over the short term is their capital is capable only of being placed in the largest funds, meaning potential returns are being missed from smaller products they cannot access for liquidity reasons.
Simon King, chief investment officer at Vermeer Partners, says there have been several pressures on the wealth management industry.
“The increase in operating costs for all funds, mainly around compliance and the general downward pressure on management fees, have pushed up the breakeven point for individual funds.”
He adds: “The second part is that as the fund buying community has consolidated – think SJP, Rathbones, Tilney – the minimum amount they can invest has risen dramatically. Most will have a limit of 10 per cent in any one fund and increasingly a minimum investment unit of £50m, so the fund needs to be £500m to be attractive.
"Individual teams at the big houses may use the discretionary element of their portfolios to ignore these guidelines. This explains why a few small funds that perform well initially rapidly accelerate their unit growth because the people that are limited at 10 per cent continually add to their holdings as the 10 per cent becomes a larger amount.”
The implications for a wealth manager of owning too much of a fund could mean it is more difficult to access the cash if they need to meet a redemption request, or the value of the investment could fall sharply.
Typically, liquidity is managed in open-ended funds through meeting redemptions by selling the units to new investors entering the fund.
If the level of new investors seeking to enter the fund is lower than the number seeking to exit, then the fund manager must begin to sell some of the underlying assets on the open market in order to raise the cash.
As the fund may have to sell lots of shares in individual companies to generate cash, this could drive down the prices of those shares, and mean the end client receives less for their investment than they may have initially thought.
Furthermore, if the underlying assets are not liquid enough to be sold, then the fund has the sort of liquidity mis-match that caused the Woodford Equity Income fund to be suspended.
Ben Yearsley, a director at Shore Financial Planning, says it should not matter if one owns a large slice of a fund, as long as the underlying assets held in the fund are liquid, as that should ensure a client can always get their money out in a timely and orderly fashion.