View more on these topics

Tatton: Offering funds for free is a new low

Stock-Market-Markets-Stockmarket-Finance-Business-700.jpgFidelity created ripples across the asset management industry when in August it announced two 0 per cent AMC passive funds – one for US equities and one for global ex-US equities.

Last week’s launch of two further, doubling its “zero funds” to four. The two launched in August that have already raised more than £770m in assets under management.

We all understand the pressure on fees, but offering funds for free is a new low in the race to the bottom, and as all Facebook users now know, free to use does not mean that there is no cost.

In financial services we also all understand that nothing comes for free, so how will Fidelity make money, and has it won the race to the bottom?

Over recent years, news of the rapid rise of ETFs and passive investment has never been far from the headlines. Since the turn of the century, passive investment via ETFs has grown at a phenomenal pace with assets held in ETFs and ETPs now standing at almost $5tn (£3.8tn).

Preparing for an all-passive world

Part of the reason for their popularity has been due to the difficulty active managers have had outperforming in a QE driven world.

Another reason has been down to cost. The operating costs of running passive funds is far lower than that of active funds. Without an expensive fund manager to pay, index fund providers can lower their management fees but still generate similar margins. Given the choice of two funds with similar performance but one has lower fees, investors have been a simple choice.

As ETFs and passive funds continue to grow, competition to capture a slice of the pie has been rife. New ETF providers have been springing up on a regular basis, with BMO and JP Morgan being among the more recent. Each has a subtly different range of indices tracked and marketing in order to present a competitive edge.

However, the most effective weapon remains reducing fees. This has not only driven down the cost of passive investment, but forced active managers to follow suit.

In 2000 the asset weighted expense ratio across all US funds was 0.93 per cent and by 2015 has fallen to 0.6 per cent and in active funds from 1 per cent to under 0.75 per cent, according to data from iShares.

Finding pockets of value in emerging markets

The strategy works. Investors have been migrating from high cost funds to cheaper alternatives in their droves.

Once fees reached a level that left providers with very little room to reduce any further, the industry began to believe the race was over. However, innovation is abundant in the passive world and firms worked out it’s deeper to creating create your own indices, avoiding large licensing fees to S&P or MSCI, cut fees and not erode margins. Lyxor’s new ETFs charge an AMC of just 0.04 per cent on a free index.

By creating a stable of funds with a 0 per cent AMC, Fidelity have gone one step further trying to catch-up  with iShares and Vanguard. At first glance 0 per cent AMC looks a great offer. However, as with all these things, the devil is in the detail.

Firstly, the funds are only available on Fidelity’s own brokerage platform ­– the same platform charges almost $50 (£38) a trade to purchase any non-Fidelity funds.

Secondly, the funds will be based on Fidelity’s own version of US and international equity indices to reduce licencing costs as described above. Although the indices have been designed to imitate those which are more well known, the actual performance may slightly differ.

Finally, stock lending. Many asset managers lend their investors’ equities to short sellers, charging a fee in the process. This is not secret, BlackRock, for example, returns 62.5 per cent of this revenue to the funds that lent them, adding 1 to 9bps to annual returns.

Lehman Brothers’ collapse: What’s changed since 2008?

For Fidelity’s funds, the beneficiaries of stock lending, who’s at risk and how aggressive the lending practices will be remains unclear. There could be a mismatch between who bears the risk and who benefits.

BlackRock’s lending practices are quite conservative; over-collateralised to 110 per cent and only a small proportion of the fund is on loan at any given time. BlackRock could make more money if it lowered the collateral requirements, accept more risky counterparties or lend more, but this would increase risk to investors.

Fidelity is winning the race to the bottom. Whether it is truly beneficial for investors is uncertain. As all human history has shown, you get nothing for free. Putting cynicism to one side for a moment, if the changes introduced puts pressure on other fund providers to reduce their fees, investors as a whole will benefit as the total cost of investment falls for all, and that’s not a bad thing.

Paul Muir is head of fund research at Tatton Investment Management

Recommended

Pile and a stack of coins with technical chart of financial instruments. A concept about currency trading or investing which investors must analyse and make the right decision for optimal profits.

Pension transfers fall to £8.2bn in Q2

The total value of pension transfers fell from £10.6bn in the first quarter of the year to £8.2bn in the second quarter, the latest figures from the Office for National Statistics show.  According to AJ Bell, this is the first drop in value of pension transfers since the second quarter of 2016. The figures coincide with […]

tracker funds
16

Preparing for an all-passive world

Despite being around since the 1970s, index tracker funds did not have much love from investors until a decade ago, when Lehman Brothers crashed along with many people’s faith in financiers. The popularity of passive funds grew steadily and they went from a negligible market share at the beginning of the millennium to making up […]

Money-Cash-Coins-GBP-Pounds-UK-700x450.jpg
101

How much are advisers charging for pension transfers?

Defined benefit pension transfer charges are being put under the microscope again as the regulator turns over more potential conflicts of interest. With the British Steel Pension Scheme the latest to dominate headlines and the FCA ready to interrogate further as it extends its review to include all firms authorised to give pension transfer advice, […]

Newsletter

News and expert analysis straight to your inbox

Sign up

Comments

There are 2 comments at the moment, we would love to hear your opinion too.

  1. Stock lending….. significant change in risk potentially and building up a systemic risk.Diversification v counterparty risk.

  2. I also wonder how easy it will be to compare the performance of different passive funds if they are all tracking slightly different “bespoke” versions of the indexes they criticise active funds for failing to beat!

Leave a comment

Close

Why register with Money Marketing ?

Providing trusted insight for professional advisers.  Since 1985 Money Marketing has helped promote and analyse the financial adviser community in the UK and continues to be the trusted industry brand for independent insight and advice.

News & analysis delivered directly to your inbox
Register today to receive our range of news alerts including daily and weekly briefings

Money Marketing Events
Be the first to hear about our industry leading conferences, awards, roundtables and more.

Research and insight
Take part in and see the results of Money Marketing's flagship investigations into industry trends.

Have your say
Only registered users can post comments. As the voice of the adviser community, our content generates robust debate. Sign up today and make your voice heard.

Register now

Having problems?

Contact us on +44 (0)20 7292 3712

Lines are open Monday to Friday 9:00am -5.00pm

Email: customerservices@moneymarketing.com