Enough of the navel gazing

Inflation may remain as stubborn as a mule, stock markets may be as volatile as an unfriendly mother-in-law, but investment fund charges are falling. In percentage terms at least. More for us as investors and less for the country’s investment management houses.

Hurrah, hurrah, hurrah. And about time, I hear you collectively say.

This good news has not come from some missive issued by the Investment Association whose members manage some £7.7trn of assets on our behalf.

RDR has resulted in greater transparency, breaking the previous commission connection between advisers, platforms and fund managers.

Goodness, no; this august organisation has long disconnected itself from the concerns of decent hard working people investing a little every month to ensure they can get by in retirement. Navel gazing, it seems, is now its specialism (unlike the Association of Investment Companies that maintains a strong consumer agenda). It is a result of some exhaustive research carried out by fund scrutineer Morningstar, an organisation that hands out gold, silver and bronze badges to investment funds that cut the mustard – and for good measure star ratings too.

Morningstar has gone back to 2013 and the start of the Retail Distribution Review in order to carry out its analysis.

As you well know, RDR has had a dramatic impact on the financial landscape, driving financial advice ever up market while reducing independent financial adviser numbers.

Both good and bad – more professionalism, less accessibility – although whenever I mention RDR to advisers over dinner or at a conference, their faces tend to turn a colour purple.

RDR has also had a big effect on investment funds. It has resulted in greater transparency, breaking the previous commission connection between advisers, platforms and fund managers.

Many financial advisers have responded by changing what types of fund they use in clients’ investment portfolios. Active funds have become somewhat passe. Passive, trackers and exchange traded funds have increasingly become the norm.

Morningstar’s research confirms what we probably knew already: in other words, that the downward pressure on fund management charges is relentless.

Driven in part by the march of the cheap and cheerful passives (cheaper and more cheerful by the day) and also by a combination of increasing regulatory scrutiny and consumer advocates calling for a fairer investment deal.

So over the past five years, the annual fee on the average equity fund has fallen by 18 per cent. Over the same period, passive fund charges have reduced by 28 per cent.

To put some numbers on these reductions, the typical UK equity income fund was levying an annual charge of 1.44 per cent in 2013. Now, the average is 1.13 per cent, a fall of 22 per cent. Indeed, the reductions in funds with a UK bent have fallen the most, with UK large cap funds and UK mid and small cap funds reducing charges by 20 per cent and 24 per cent respectively to an average 1.03 per cent and 1.04 per cent.

To put these figures into context, the average passive fund now levies an annual fee ranging between 0.15 per cent (US large caps) and 0.37 per cent (global emerging markets).

You could argue that the gulf between active and passive fund charges remains too large and that it should be closed. Absolutely.

For a start, some fund managers need to take a knife to administration fees – a component of the ongoing annual fee.

This is a point expertly made in a recent article in The Sunday Times that highlighted the disparity in admin fees levied by individual funds, based on analysis by Justin Modray of Candid Financial Advice. On any level, some of the fees being charged are unjustifiable.

Also, as Morningstar’s report highlights, too many investors remain in ‘legacy’ share classes, resulting in them paying more in annual fees than they would if in a new style ‘clean’ share class devoid of adviser or platform fees.

Yet, as Morningstar concludes: “There is no doubt that the RDR has influenced the marketplace in a good way. There is greater transparency of fees for the investor and this has brought to the fore the issue of the assessment of value at a fund level.”

I think the investment fund industry needs to take a leaf out of the investment trust industry. In recent years, the boards of many investment trusts have demanded better value for money from the incumbent managers.

In some instances, managers have been replaced. In the vast majority of cases, charges have been reduced.

What has become the norm in investment trust circles is for the managers to lower their percentage fee once a trust’s assets strike through a certain threshold.

So, for example, they will levy a 0.7 per cent charge on assets up to £500m and then 0.6 per cent on any surplus.

This seems a fairer deal for all concerned: the trust’s shareholders and the investment managers.

Although I may be missing a trick, surely such tiered charges could equally be applied to unit trusts and open-ended investment companies. Maybe an issue that the Investment Association could look at in between bouts of navel gazing.

Jeff Prestridge is personal finance editor of the Mail on Sunday