The Fees Conundrum: Prices Rising... and Falling

Some investment managers are earning more in fees even as pressure increases on pension funds to reduce costs, research by a UK consultant has found.

LCP’s fifth annual fees survey—covering UK institutional investment—reported that some mandates had increased in cost by 60%.

“The majority of UK property, corporate bond, and core UK equity managers have increased their fee basis over the last five years.” —LCPThe diverse paths taken by different managers were illustrated by the survey: Over the five years to the end of 2014, the annual fee for a £50 million ($74 million) mandate rose by an estimated £200,000, LCP found, but some equity and diversified growth fund managers had reduced their fees by 20% in the same period.

“In contrast, the majority of UK property, corporate bond, and core UK equity managers have increased their fee basis over the last five years,” LCP said in the report.

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The consultancy said increased demand for mandates in these areas may have helped push fees up, while the number of managers offering core UK equity mandates has fallen in recent years.

Elsewhere, the proportion of managers not disclosing indirect costs has fallen to just 17%, LCP found, but this positive news was offset by the 50% of managers that still did not disclose transaction costs.

“With so much scrutiny on investment management fees,” said Ken Willis, partner at LCP, “it’s disappointing that there are still some managers that are unable, or unwilling, to disclose details of the indirect charges that affect their clients.”

Mark Nicoll, investment partner at LCP, said “the mist is clearing” regarding fees as disclosure improves, but warned that “intransigence threatens the reputation of the whole industry”.

Average fees. Source: LCP Source: LCP

The findings come as UK public pension funds have come under renewed scrutiny for paying high fees to consultants and asset managers. Research published in the Financial Times found some local government pensions were paying more than 1% of assets in fees every year. The data was compiled by John Clancy, a Birmingham councillor, and claimed to show some pension funds paid more than 1% of their assets per year in asset management and consultancy fees.

David Blake, professor of pension economics at London’s Cass Business School, said taxpayers—who eventually pick up the tab for employer contributions—“are getting a very bad deal, indirectly paying extortionate fees to the fund managers of those schemes.”

In a speech to the Local Government Pension Schemes (LGPS) conference earlier this month, Susan Martin, CEO of the London Pension Funds Authority, said combined fees paid out by public pensions were likely to be higher than previously reported.

However, Martin rejected proposals for a move to passive management across the board for the LGPS, calling instead for pensions to collaborate in a similar fashion to the recent deal between the LPFA and the Lancashire County Pension Fund.

How a multi-asset fund is measured and marketed needs tougher scrutiny from investors, according to consulting firm PiRho.

In a paper questioning whether diversified growth funds (DGFs) meet expectations, the consulting firm advised investors to look not only at how they performed compared to the market average, but also to the benchmark they set themselves.

“Investors in DGFs would for the most part be disappointed with the performance of DGFs over the past four years.” —PiRhoThis is not a simple task, the consulting firm said, as each fund uses different methods—multiple benchmarks, adjusted targets, and more “aspirational” objectives—to gauge whether they have hit the mark or not.

Despite this range of measurements, many have failed to meet their own expectations over the last four years, PiRho found. From a group of 16 UK-based DGFs, just two funds reached their four-year implied return targets by the end of last year, after fees were paid.

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One of the main reasons was the economic environment, which had not been predicted when setting out the funds’ objectives, the paper claimed.

“Overall, investors in DGFs expecting ‘equity-like returns with lower volatility over an economic cycle’ would for the most part be disappointed with the performance of DGFs over the past four years,” the paper said. “The determination of governments post the financial crisis to support economic growth has contributed to strong equity markets as well as strong bond markets.”

In these circumstances, diversification—which is “at the heart of the diversified growth fund”—has not paid off as compared with a simple equity and bond portfolio, PiRho said.

However, the consultants advised investors to not dismiss those funds that missed their targets out of hand, but instead use the exercise as a reminder of discipline in manager selection.

“We believe to really understand the likely performance characteristics of a fund it is necessary to ‘look under the bonnet’ and examine the manager’s approach to risk management rather than simply relying on the fund’s stated objective,” the paper concluded.

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