You get what you don't pay for

You get what you don't pay for

“The grim irony of investing is that we investors as a group not only don’t get what we pay for, we get precisely what we don’t pay for”

John Bogle – CEO Vanguard Investments

The beginning of this year saw the implementation of The Markets in Financial Instruments Directive (MiFID II) in Europe (including the UK).  This set of regulations requires – amongst other things – greater transparency for investors in respect of the total costs of investing.

This followed hot on the heels of the Financial Conduct Authority’s (FCA’s) own study last year (the Asset Management Market Study) into how fund management groups were doing in terms of costs disclosure (the FCA’s conclusion was: not very well).

The situation in Europe, as a result of the implementation of MiFID II, contrasts sharply with that in the US.  We tend to think that in matters financial the US is ahead of the rest of the world, especially when it comes to regulation and disclosure but sadly this is not the case and in fact in respect of the whole ‘Treating customers fairly’ regime to which the UK financial services industry is quite rightly subject, no such equivalent exists in the US unless you seek advice from an adviser who works to a fiduciary standard, in which the client’s interests must be put ahead of those of the adviser.

In terms of the costs of investing, product providers in the US can, it seems, make it as difficult as possible for the investor to determine the true costs they are paying.  This was brilliantly illustrated recently in a blog by Dina Isola, a fee based advisor at New York based Ritholtz Wealth Management.

Whilst the situation in the UK may not be perfect, at least it’s a hell of a lot better than that.  That said, the requirement to disclose charges in and of itself is not sufficient.  We also need to be making sure that investors can understand both what the costs are and the effects of those costs.

The FCA has recently published a further paper entitled ‘Now you see it: drawing attention to charges in the asset management industry’.  Costs and their effects do now seem to be a major issue for the FCA, as it demonstrates in the Executive Summary:

“The low visibility of charges and lack of understanding can create harm in two ways: directly by causing investors to hold poor value for money products, and indirectly through reducing competition between asset managers to lower charges over time.”

The FCA carried out an experiment which involved the simulation of an online investment platform and asked 1,000 people who currently do not use a financial adviser (but who had invested in an actively managed fund before and had more than £10,000 of investable assets) to choose between six actively managed funds in which to invest.

The participants were split into four groups and tested against four treatments:






Warning & impact chart





Warning & comparator chart




Warning & review screen

A warning reminding participants to check how much they were paying and that charges can have a significant impact on their returns.  This was at the top of the page containing the six funds.


Included a graph depicting the impact of a small difference in charges on net returns over time.  This was also at the top of the page containing the six funds.


Included a chart comparing a fund’s charges to others in the same asset class.  This was on fund-specific pages which investors could open as pop-ups.


Included a screen that appeared once investors had selected a fund.  This provided a summary of the costs and charges for their chosen fund as well as the comparator chart (in the previous treatment).  Participants had either to confirm their choice or go back to look at the available funds again.


The results were pretty conclusive: for the group given the ‘Warning & review screen’ there was a 10.5% increase in the proportion of participants selecting a cheaper fund.  The FCA has concluded:

“The warning message appears to be effective in influencing decision-making, likely due to the fact that it simply and directly instructs investors to consider charges.  The effect is enhanced when combined with figures designed to graphically illustrate the impact of charges on returns and to make comparisons with the charges of other comparable funds.”

It also concluded that the placement of the information played a large part, being most impactful when it was prominently positioned on pages that all investors had to view.

Interestingly, having greater clarity on costs didn’t change the emphasis the participants placed on other criteria such as performance and risk.

The FCA confirmed that it wants asset managers to begin providing investors with an all-in fee in pounds and pence, incorporating transaction costs on an ongoing basis, which is great news for investors, but warned that how the information is presented “will be important if it is to help consumers make more informed choices”.

There’s no doubt that investors need greater transparency and for the costs they are paying to be presented in a way which is both easy for them to understand and helps to inform their choices by being presented in a manner which enables them to compare the costs of different funds.  It will also hopefully serve to drive down those costs over time as, generally, with greater transparency comes greater competition.

I’ll end this piece with another quick gander across the pond.

I’m a huge fan of podcasts and tend to listen to them when I’m out running.  I was listening to an episode of ‘Animal Spirits’ the other day, in which the presenters Michael and Ben were discussing the performance of a well-known US hedge fund, Pershing Square Holdings (PSH) Limited (also, incidentally, available as an investment trust in the UK).  They read out some figures which nearly made me trip up.  When I got home, I checked them out.

PSH is a pretty typical hedge fund. It invests in North American equities, and again is fairly typical in that it charges a set annual management fee plus a performance related fee (giving a potential total fee in line with the ubiquitous ‘two and twenty’).

Here are the figures from inception at the end of 2012 to 15th May 2018 taken from the monthly report which PSH has just published:

Source: Pershing Square Holdings Limited

Look closely at those figures.  No really closely.

Since inception the fund has produced a total return of 18.3%.

AFTER fees, investors have received 1.6%.

The discrepancy looks huge but when you calculate the annualised return the gross return is 3.2% and the net is 0.3%, so the annual cost is ‘only’ 2.9% (I’m assuming no performance related fees of 20% of the gains were earned by PSH).  While that is way more than many ‘traditional’ funds, it’s really not far out of line with hedge funds using a 2 & 20 structure.

The fact is, a seemingly small annual cost translates to virtually all the gains the fund made during the period being wiped out.  Investors invested in the fund during that period have basically earned hardly any return at all, and a negative real return when inflation is taken into account.

The message?  Costs matter.  Need I say more?*


*(The eagle-eyed amongst you will have spotted that the S&P 500 index over the same period returned 112.3% including dividend income but to be fair, whilst the fund invests solely in US equities – which is presumably why PSH provides comparison with US indices – five years is a short time horizon for assessing any equity investment and this piece is not about active v passive)