In most industries, prices fall as the number of customers grows and the provider achieves economies of scale. Companies know that the lower their prices, the more customers they are likely to get and keep. So, when they can, they cut their prices.
This is even the case for most fund managers. Research from TCF Investment shows that in the US, small investment funds (with under £50m of assets in total) charge median total expense ratios (TERs) of 1.5% of the value of the assets a year. After that, it comes down quite fast: funds in the £50m-£275m range charge 1.38%; in the £275-£700m range charge 1.27%; and the biggest funds – those over £700m – charge 1.24%.
It is the same in Germany, where the small funds are pricey, at 1.73%, but the bigger funds are relatively cheap: using the same price brackets as above, they shift to 1.61%, 1.43% and finally, for funds with over £700m, to 1.37%.
Fees are higher overall in France (the corresponding numbers are 2.34%, 1.97%, 1.61% and 1.58%), but they still fall as assets rise.
You might all think this makes sense. After all, if you can run a £500m fund on £9.8m (using the 1.97% fee), you can run a £900m fund on £14.4m (the 1.61% fee). So it seems reasonable that the percentage of assets taken should fall as the assets grow.
However, if that’s how you think, you probably aren’t a UK fund management company. Here, things are different. Instead of falling as a fund grows, the percentage taken rises.
According to the numbers from TCF, while fees do fall as a fund grows over £50m, they rise thereafter. Own units in a fund with assets of £50-£275m and you’ll pay 1.66%. Go for one in the £275m-£700m range and you’ll pay 1.65%. Over £700m and its 1.67%. That’s 34% more than you’d pay in the US and even 5.6% more than you’d pay in France. Worse, over the last ten years UK fees have not fallen, but risen.
So what’s going on?
It isn’t the case that it costs more to run funds in the UK than it does in France or Germany. And there are, of course, a good many funds charging fees well below the overly steep average, and doing really rather well out of it. None of the managers of the many excellent investment trusts charging 1% or under looks particularly hard up to me.
The fact is that the fund management industry is not a particularly altruistic one. The fees it charges are commercial. And they are based not on the costs of the funds but on whatever the market will bear.
So our real question should not be why isn’t the industry more generous to its customers, but why does our market bear such high costs? Americans wouldn’t pay these fees, so why do we?
For the same reason we still bought cars back when the block exemption and lack of harmonisation of car prices in Europe left UK prices much higher than those elsewhere. A few intrepid buyers bought “grey import” cars from abroad, but for most, doing so was just too hard. So they paid up to buy domestically.
There is a parallel here with funds. The big management companies (Fidelity, Jupiter etc) have something of an oligopolistic hold over the market thanks to their expensive branding and cosy relationships with the IFA industry and platforms. It is possible for investors to find cheaper – and possibly better funds – elsewhere but for most it is, again, just too hard: the language is too confusing and their advisers are too often in thrall to the commission system, so they go where they are led.
On the plus side, it wont be long before the kind of transparency I have been writing about for some time will be with us.
From next year, advisers will have to stop charging commission and start making fees totally clear. A little later, one-stop shop investment platforms are to be dragged kicking and screaming into disclosing the kickbacks they get from fund managers. Add that to the intense competition from exchange traded funds (ETFs) and investment trusts and change must soon be afoot.
TCF, by the way, commissioned the research I refer to above to promote the fact that their own funds are run on a downwards sliding scale basis: the bigger the fund, the lower the percentage fee. The management fee on their Total Clarity Funds is 0.4%. The maximum initial TER is 0.8%. But by the time the fund hits an asset value of £800m the maximum TER will be 0.6%.
They pay no commission and no initial, exit or switching fees. The funds are small and haven’t been running long enough for me to make any particular comment about their performance. But I hope other fund management companies will follow their lead on fees. It’s a good one.
• This article was first published in the Financial Times