Are you paying a fair investment management fee?
28 September 2016
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On mobile, on digital, on demand, this is Old Mutual Live Money Coach. Hello and welcome, my name is Chris Gibbons. There are many of us, I’m sure, who have some good solid investments. Things like unit trusts perhaps which, by and large, we’re quite happy with.
But how many of us truly understand the nature of the costs associated with such products and investments? Or to put it another way, do we really know by how much the pernicious hidden costs are eroding the real value of our investments? Old Mutual Live Money Coach is joined once again by Anchor Capital Analyst, Lee Cairns. Lee, greetings and welcome. First off, what are the kinds of costs associated with the average investment?
Lee Cairns: The average investment is obviously quite a broad spectrum there. If I focus on just the unit trusts which you mentioned there. There’s a very particular term which all unit trusts use. Which is a total expense ratio. That’ll include their admin fee, actual management fee, which is usually the bulk of the fee that the manager actually charges.
The big, better manager will charge more and perhaps the manager with less experience less. Then there’s brokerage costs. But the total expense ratio, always has a requirement, which is a regulation regulatory body in South Africa. That’s the best thing to look at and anything significantly under 2% is still a reasonable fee in South Africa.
How to see what your investment fees are
CG: How do I find that particular figure? Where do I look to see what it is?
LC: On the fact sheet that every registered unit trust in South Africa is required to have, they have their fee disclosures. Their fee disclosure will be broken up into the various compartments. Some have performance fees, some don’t.
But that’ll certainly be included in the total expense ratio as well. Underneath the layers of fees that they disclose there, you’ll get a breakdown of it. Then the total expense ratio will give you a combined formula which tells you what the total expense for that particular fund is.
CG: And I pay those fees irrespective of performance?
LC: Just a performance fee is separate to the underlying fee. The flat fee will be the management fee. Most of the admin fee and any investment costs, such as brokerage. That will be paid and most funds have that as a stock standard. I think a lot of clients have been saying: Why can’t get a fund that’s just purely based on performance? So that I pay zero if there’s no performance.
I think the answer in the industry has been to that, is that it’s impossible to guarantee a performance each year. Regardless of how good a fund manager is and you need money to pay the best people to manage the money and therefore that’s not really a sustainable model. A performance fee is okay, it’s an incentive for the manager, so long as it’s in sync with the rest of the fee and not out of kilter.
CG: A lot of these fees don’t sound like very much at all. I was told some years ago by an investment advisor that he’d managed to negotiate all the fees away, bar a thing called a trail fee of a mere ½%. But over 20 years that was going to cost me half a million rand.
Can you negotiate fees?
LC: Yes, Chris, I’m very glad that we live in the day and age that we do now where everything is much more transparent. Because certainly when you look back 10-20 years ago, you do worry whether some clients were costed their retirement by not being aware of everything that they were paying for.
The total expense ratio again, includes everything. When you go out of unit trusts and you go to an advisor, the advisor would charge his management fee for choosing the right unit trust for you. That can range anything between half a percent and a percent.
Then the platform, so the various life houses provide a platform to hold his chosen combination of unit trusts. They’ll charge a fee as well, anything between 30-50 basis points. What that client said is he said with those independent parts and particularly the advisor, he’s used him to. He’s negotiated his fee to as low down to the 50 basis points or perhaps even lower if it’s a large quantum of money.
He’s also said to the advisor: I’d like you to go and negotiate with the asset manager and to get me the lowest fees because of the quantum. Perhaps even choose a B class fee rather than the A class, which is often only for institutional investors. But they do sometimes allow them to open up for the investor with a large sum of money. I think that’s what he’s referring to with regards to the negotiation of fees.
CG: Equally, high fees for great performance is far better than rock bottom fees for mediocre performance.
LC: Absolutely. I’ve got a number of examples where we’ve had clients bragging about where they’ve been able to get the house that they’ve invested with. Negotiate their fee down to, quite often a fee that’s in line with say an ETF. I guess at the end of the day you look back after two years and say, let’s have a look at what value you got for that fee as opposed to the extra 50 basis points that might have got you the best manager in the market.
More often than not in a market like South Africa is, where I still think very good active management is rewarded. The half a percent that they saved, they gladly gave away or easily gave away 3-5% in performance. In my experience, on the comparison of the poor manager for less cost versus the best managers, given a period of time, has been rewarded for paying up the half a percent or whatever it is for the good active management.
What is an ETF?
CG: You mentioned ETF’s, exchange traded funds. I know Warren Buffet, the sage of Omaha believes you should either manage your investments as a professional full-time, or simply go into an ETF.
LC: I’m a big believer of ETF’s overseas Chris. We’ve been a bit slow to catch up. I guess some of the companies that offer the ETF’s here are aware that people are maybe less fee savvy than their overseas counterparts. So that’ll catch up.
But what you could get in equivalent equity ETF for in say America compared to South Africa, is still chalk and cheese. You’re paying probably double in SA what you’re paying in America. When you get to the ETF fees in SA and then you take the differential of what the comparison is between that and active management, it doesn’t warrant the scaling down of the argument behind an ETF. As you will always get less in the market. Because you get the market less the fee.
If the fee overseas is 35 basis points, the fee locally is still 60-70 basis points and to my mind it’s not cheap enough yet to warrant that method. Warren Buffet is right. SA is still playing catch-up on getting that fee reduced to where it needs to be.
Don’t pay a fee of more than 3%
CG: You’re listening to Old Mutual Live, the Money Coach edition, on demand, visit dogreatthings.co.za. I’m talking to Lee Cairns of Anchor Capital. Lee, final question for you, if I am concerned about the fees associated with my investments, what should I do to check them out?
LC: If you request the term total expense ratio is one that has required that the investment company must then disclose all the breakdown. If that comes anything north of 2.5 – 3%, there’s an issue there. Then I would obviously advise to get involved with an advisor who knows the game well. Say I want a solution that this total expense ratio can get pulled down to something less than 2%. I would strongly advise that’s the route to take.
CG: And there we’ll leave it for today. This has been another edition of Old Mutual Live Money Coach, my name is Chris Gibbons. With me on the line has been Lee Cairns, Analyst at Anchor Capital. Remember, please feel free to get in touch any time if you have any questions for me or topics you’d like us to cover on Old Mutual Live Money Coach, just send them to me directly at firstname.lastname@example.org. I’d be delighted to hear from you. Until the next time, thank you for listening, Old Mutual Live, on mobile, on digital, on demand.