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Performance freeze

Chris Salih looks at the response to a call to shun funds with performance fees

Hargreaves Lansdown chief executive Peter Hargreaves reignited the performance fee debate by calling for advisers to boycott funds which use them, apart from in exceptional circumstances.

He beleives that fewer than a dozen managers warrant the fees and that those managers who perform badly should be penalised.

Hargreaves says there are two types of performance fee which he feels are particularly unfair on the investor. The first is the use of a hurdle rate which is easy to beat.

He says: “For instance, several unit trusts have a performance hurdle to beat Libor which is currently 0.73 per cent one month, 0.57 per cent three months.”

Hargreaves says the second type of unfair hurdle rate is those based on a short period.

He says: “In other words, if the fund outperforms for three months, the fund manager can take his money out after three months. If you look at how markets move, there is every chance that over a short period of time he will outperform whereas he should only benefit over a long period of time, otherwise the money will leave the fund and there will be less money in the fund to achieve results for the client.”

The introduction of performance fees in the retail fund market largely began in 2004 when the FSA lifted a ban on the use of these charges within open-ended portfolios. This meant UK managers could compete on equal terms with European managers. Before this, onshore unit trusts and Oeics could only imitate a performance fee by reducing their management charges. The fees have become more prevalent with the introduction of long/short absolute return funds acting as a catalyst.

A Skandia Investment Group survey of fund firms last year showed two-thirds expect the use of performance fees to increase.

Schroders head of UK intermediary business Robin Stoakley says: “Performance fees offer a good incentive to managers to add value. There is nothing wrong with them as long as they have a sensible and realistic calculation and a relevant benchmark.”

Whitechurch Securities managing director Gavin Haynes says his firm is careful in recommending funds which have performance fees, but would not go as far as to boycott them.

He says: “Sometimes they are a necessary evil to get access to some of the top-performing fund managers. If they are in place, then the annual management fee should be reduced.

“You would expect them to grow, given that this has come largely out of the hedge fund area and with absolute return funds – which are effectively retail versions of hedge funds – growing in popularity that performance fee culture is likely to grow. We do not want to see them applied to standard UK funds, which are not at the sophisticated end of the market.”

Cazenove head of UK retail Rob Thorpe agrees with Hargreaves to an extent but says performance fees are useful to attract talent in the industry.

He says: “These managers will want a similar remuneration package to the one in the hedge fund space, where performance fees are the norm.”

Hargreaves Lansdown currently has 14 funds with a performance fee within its Wealth 150 but it says that in the future it will be far stricter on adding and retaining those funds in the list.

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