In the FT recently, Matthew Vincent notes he’s now written 88 articles about the cost to retail investors of investing in funds. I reckon I’ve written at least as many. The problem is twofold. First, charging is so opaque it’s often all but impossible to calculate the real annual cost of holding any given fund. Second, that if you do figure it out, you discover it’s far too much.
Currently investors are given a management fee (usually 0.5%-1.5%). Then they’re told what the total expense ratio (TER) will be once other costs are included. But while the TER calls itself “total”, it doesn’t actually represent a total cost as it doesn’t include the administrative costs of buying and selling shares and of stamp duty.
The upshot? When you buy a fund, you do so with only a rough idea of how much it is going to cost you to hold it. The average TER on a UK fund is currently about 1.65%. The average real total could be well over 2%.
Good news, then, that some in the industry are beginning to see the problem. Fidelity proposes a new figure to be called the total cost of ownership (TCO). This will include the management charge, administration charges, the costs of advice and distribution and dealing costs and stamp duty.
Asset manager SCM has come up with something similar, which means that an honest fund manager now has two perfectly good ways of explaining to his clients exactly what he costs them.
After years of droning on about this, I am, like Vincent in the FT and Kathryn Cooper in The Sunday Times, absolutely thrilled. Those who aren’t (most other fund providers) say it isn’t necessary. When you buy something in the supermarket, they say, you don’t get a breakdown of the costs of growing, storing and transporting it. You just pay the price the shop gives you.
But the difference should be obvious. At the supermarket you know the price and you pay it on the spot. You don’t leave the supermarket your credit card so they can deduct more later.
But when you buy a fund without a TCO, you don’t know the final price. You hand your money over while only knowing the details of three-quarters of the price. And you accept the manager taking whatever else he wants from your pot as and when.
That’s very different. It’s why we need to know every component of a fund’s cost and what it’s likely to add up to in detail and in advance. If in having transparency we expose the second part of the problem, all the better. It might, says Cooper, mean that “some true competition can be brought to bear on the industry – at last”.