26 Jun FCA Asset Management Study: Will the regulator dare to bare its teeth?
The Financial Conduct Authority (FCA) issued an interim report last November, outlining its initial findings from the examination of the UK asset management industry. Those findings were pretty damning, highlighting the FCA view that, whilst the industry plays a vital role in the UK economy, investors were receiving a raw deal at the hands of a business area it feels is growing rich at their expense. It concluded that value for money was thin on the ground and that high levels of conflict of interest exist.
The reasons quoted for looking at the sector were “to ensure that the market works well and the investment products consumers use offer value for money.”
Sadly, it seems that the FCA found little evidence of this.
One of the main issues identified was the lack of transparency surrounding the true costs that investors pay to invest in actively managed funds. The report illustrated this in clear terms, comparing the net return on an investment over 20 years to show the impact of charges:
“Assuming, for illustrative purposes, that both funds earn the same return before charges (the average FTSE All Share Index growth), an investor in a typical low-cost passive fund would earn £9,455 (24.8%) more on a £20,000 investment than an investor in a typical active fund, and this number could rise to £14,439 (44.4%) once transaction costs have been taken into account.”
It goes on to add, “We recognise that some investors in actively managed funds are likely to expect higher returns in exchange for the greater risk they are taking on.”
Well, yes, clearly – or why else would anyone even think about investing in such a fund? The problem is that we don’t always get what we expect and the fact is that, after costs, the vast majority of active funds underperform passive alternatives. While some do outperform, even after accounting for the risk that they take to do so, the body of available evidence overwhelmingly suggests that identifying them in advance will be is virtually impossible.
Apart from the issue of costs, the FCA highlighted a number of other factors within its interim report:
- Investors are not always receiving value for money – this applies to some passive funds as well as active funds – how does a manager justify charging 1% annually when an investor can buy an alternative passive fund doing exactly the same job for a fraction of the price?
- There is significant evidence that fund houses are charging very similar fees for their products – what is known as ‘price-clustering’
- The performance of some funds was found to be being measured against an unsuitable benchmark.
- There is a lack of evidence that anyone advising investors can demonstrate the ability to identify those fund managers who will outperform in the future.
- Despite the continued growth of the industry, there is no evidence that economies of scale (if a fund doubles in size, its fees also double but its costs do not) have been passed on to consumers.
The final version of the report is due to be published on 28th June. As you can imagine, the fund management industry has been lobbying hard since the interim report was put out for consultation.
The big question is, “Will the FCA bare its teeth and follow up its report with action?”.