Fidelity International is to pass on research costs totalling more than $42m a year to investors as it unveiled details of a variable management fee linking fees to performance. The £233bn Bermuda-based fund house revealed this week that research costs amount to 0.0228 per cent of the $185bn in its equity funds.
Instead of absorbing European investors’ share of the resulting $42m under the new Mifid II regulations, Fidelity said in October that it will pass research costs on to its clients. The decision leaves it among only a handful of major fund houses to have chosen not to absorb such costs themselves.
Debate over the application of fees is intensifying globally among investors and regulators, amid mounting criticism of a system that often favours profits for asset managers over their clients’ interests. Fidelity said it did not want to differentiate between clients covered by Mifid II and those that are not, and that it believed its chosen structure was the most appropriate.
“We believe companies that adopt the ‘hard dollar’ approach for Mifid II clients are incentivised to lessen the extent and cost of research used to underpin their research decisions and that this will ultimately adversely impact client outcomes,” it said. Rory Maguire, managing director at Fundhouse, the investment advisory company, criticised the decision. “We feel that sellside costs should be paid by fund managers because this is their cost (like the salaries they already pay their investment team), not the cost of the client.”
Mr Maguire said charging for research is “even tougher to understand” given Fidelity’s large internal research team. The cost of research will ultimately be more than offset by a reduction of 0.1 percentage points on the base annual management charge under its new variable management fee, to be applied initially to 10 funds worth $31bn. Share this graphic
The new charging structure is designed to help resurrect the fortunes of active fund management by linking fees to performance, in response to huge outflows into passive funds that replicate the performance of an index. If managers beat benchmark returns after the deduction of the new base annual management charge and other costs, investors will then be asked to pay extra.
Outperformance of the benchmark by 2 per cent or higher will cost clients 0.2 percentage points more than their standard fee, with performance between 0 and 2 per cent above the benchmark charged on a sliding scale. Similarly, annual management fees will drop if Fidelity’s managers fail to beat their benchmarks. “We believe innovation in fee structures is essential if active fund management is to succeed,” said Brian Conroy, president of Fidelity International.
“We believe this is a meaningful step and also one that we hope will be adopted by the wider asset management industry.” Subject to regulatory approval, the charging structure will be applied to 10 of its pooled active equity funds from next March. Clients with their own segregated mandates, including pension funds and investment trusts, will be able to choose an adapted version of the model.
Patrick Connolly, a financial planner at Chase de Vere, the financial adviser, said previous performance-based fee structures had been unfair to investors, as they did not penalise the manager for poor performance. “Fidelity’s performance fees seem to strike a fairer balance between rewarding managers for strong performance but also protecting the interests of investors if their investments perform badly,” he said.
However, the complex nature of the fees may make life harder for investors attempting to compare the value for money offered by different products, said Laith Khalaf, analyst at Hargreaves Lansdown, the online funds supermarket. “What’s more, investors choosing active funds, including ourselves, expect outperformance from the fixed percentage fees they already pay,” Mr Khalaf added.
“No one wants to invest in an underperforming active fund, no matter how cheap it is.” Investors switching into the new structure on the launch date will pay the base annual management charge for the first three months. Performance will then begin to be measured from the launch date, eliminating the possibility that investors pay for performance realised before the introduction of the structure. When a three-year record has been established, the daily performance fee calculation will then begin to be made on a rolling three-year basis.
Three years is shorter than is often thought to constitute a record, but Fidelity said that its research and investment process is designed to generate outperformance over this timeframe. “Three years is also consistent with the average UK retail client holding period,” Fidelity said. The UK Investment Association’s 2017 annual asset management survey found that clients remained in products for three years on average in 2016.
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