We need to talk about fees

Fund directors should be required to interpret their fiduciary responsibility as relating to the fees their shareholders bear, suggests a new report from Lipper on charging in the European fund management industry.

The report, penned by Ed Moisson, head of consulting at Lipper FMI, uses new analysis of fees and expenses data to illuminate the charging landscape in Europe.

The conclusion regarding fund directors is seen as a “middle course” between the two extremes of letting the market decide what fees are appropriate and involving the regulator. “It certainly seems both relevant and timely to consider this more closely,” says Moisson.

The fact that the regulator is mentioned at all will immediately alert readers to one of the report’s principal conclusions: that fund companies are resistant to reducing fees even when economies of scale are in place.

Although previous analysis has shown that larger funds tend to have lower average total expense ratios (TERs) than the smallest funds, this is partly explained by the disproportionately high expenses borne by the latter. Lipper’s new analysis shows that as assets rise among funds with €50m plus under management in Europe, the expenses borne by investors do not continue to fall. In Europe, unlike in the US, management fees remain largely the same regardless of fund assets.

This means that although fund rationalisation is underway in Europe and there’s plenty of scope for more – Lipper estimates that if all cross-border groups merged their domestic European funds into their cross-border ranges, numbers could reduce by as much as 6,500 funds, or 25% of the European fund universe – that won’t necessarily solve the problem. The industry seems to be unable (or unwilling) to reduce management fees even for the largest funds.

“One cannot assume that the current reduction in the number of funds (if this trend turns out to be more deep-seated) will lead to lower costs for retail investors,” says Moisson. “Generally larger funds do not continue to pass on economies of scale to investors as their assets rise, most notably in relation to management fees. If fees are to fall, this will have to change.”

The Lipper report follows on the heels of a statement made at the end of last year by David Pitt-Watson, the founder and former chairman of Hermes Equity, in which he said that 40% of private-sector pension pots in the UK were swallowed up in fees. He called for annual management fees to be reduced from a typical 1.5% to 0.5%.

According to Lipper, the fee ball is very firmly in the court of one or two key large companies.

“The number of fund companies with just a handful of funds is large,” says Moisson. “At the other end of the scale, just 4% of fund groups manage around 80% of European mutual fund assets. If the bulk of investors are to benefit from lower fund costs, then this will have to be driven by these larger companies.”

The other alternative is to educate investors such that they wake up and smell the coffee and vote with their feet. Moisson points out that “there continue to be lower cost funds available for those investors willing to look”.

Or the regulator can step in. Or there is the “middle course”. Either way, we need to talk about fees.