| When transparent, management fees don't matter that much |
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| 24/10/2004 | |||||||||||||||||||||||||||||||
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Investors have no qualms about paying the high price for an investment mandate - provided they know what they are buying. An increasing number of voices are being heard for transparent management cost reporting. With management fees on the rise, notably due to the increased importance of specialist mandates versus balanced mandates, reasons abound for investors to scrutinise the fees they are subject to. Last April, the International Organisation of Securities Commission (IOSCO) said that transparency was "a driver of competition between fund operators" and chastised the UK for not making mandatory the publication of the Total Expense Ratio (TER), that comprises the manager's annual charge, but also includes services paid by the fund such as those related to the trustee, the custodian, the auditor and the registrar. In the UK, more than half of the UK pension funds now require their provider of investment services to split transaction costs from their associated management costs, according to Instinet, an execution-only broker. Year-to-year, there are now 10% more asset managers who claim that they have started to separate costs on their own. For an investor, knowing exactly what is paid for can make the difference between and out- and underperformance. That's what was observed by Frédéric Lagier, the CFO of the CANCAVA, a French PAYG pension fund, after a review of the performance of his fund managers. He realised that once the management fees were taken into account, no one of his 10 asset managers had outperformed its benchmark between 2001 and 2003. "The transaction costs negotiated by the managers and the rotation rate of the portfolio assets have a huge impact on the managers' performance", he says. Slowly increasing For equity and bond funds, management fees have been on the rise for the last 10 years, while TERs have been rising for the last 2 or 3 years. "This recent development partly reflects that the previous "squeezing" of service provider fees seems to have reached its limit", says Ed Moisson, the director of communication of Fitzrovia, a research company. Both the TER and management fees of UK-domiciled funds are also apparently on the rise, although full conclusions have yet to be reached. "Previous analysis indicates that annual management charges are rising, albeit at a slower rate than other European countries we have analysed", says Ed Moisson. Mercer Investment Consulting identified an upward trend in its 2003 UK management fee survey, in which it concluded that global equities and specialist UK equities management fees had risen by up to 0.14% between 1999 and 2003. However, pointing out to the intensification of the competition for balanced mandates, Mercer also noted that discretionary balanced management fees had actually fallen over the period. As of June 2004, the average management fees (before client negotiation) of a sample of bids processed by bfinance's investment consulting service stood at 46bp for UK equity mandates and 47bp for balanced mandates. Average management fees for emerging market equity and private equity mandates were well above at respectively 90bp and 84bp, highlighting the fact that esoteric funds command higher fees. Average management fees bid (before client negotiation), by asset class
** Avg perf. fees: 10%, with a high water mark Source: bfinance, from a universe of 33 mandate bids adding up to approximately €2.1 billion of AUM. Sources of moderation Watson Wyatt indicated in its latest global fee survey that, helped by renewed competition, fees paid to external investment managers had generally remained stable during the past three years. Europe, in contrast to trends in other regions, showed some signs of upward pressure on fees, which the consultancy partly explained by the restructuring of international porfolios in favour of performance fee-based specialist mandates. According to Mercer Investment Consulting mandate sizes have on average doubled between 1999 and 2003, which has resulted in substantial economies of scale. For instance, Watson Wyatt says that the reduction in fees between a US$50m equivalent mandate and a US$100m equivalent can amount to approximately 20% across the various international markets it surveyed. According to Fitzrovia, this type of sliding fee scale remains much less common in Europe. In the short-term, that could eventually exercise a downward pressure of management fees in this part of the world. Many investors also develop a pricing power when they develop a long-term relationship with an asset manager since they usually refrain from adjusting their fees on the upside once a relationship is established. Mercer IC showed last year that the discount for actual fees when compared to the published fees could be as high as 0.13%, varying by asset class an mandate size. But does management fees really matter in the end? "Good managers should not be penalised", reminds Olivier Cassin, the Head of research and product development of bfinance's investment consulting service. He says managers charging high fees, to the extent they can justify them, should be on an equal footing with a cheaper manager in a tender process. As a proof: the cheapest bidder in a tender process rarely wins, and the most expensive bidder in a search process often gets away with the mandate. Of course, all other things being equal, the manager with the most attractive fee structure will always obtain the mandate. A good reason for asset managers to keep fees, that are now driven up by increasing servicing and compliance requirements, under control. Julien Laplante |
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