The numerous acronyms (OCF, TER, AMC) used in the investment industry to describes various fees can sometimes become exasperating to keep up with. It can become really confusing for investors which had to lead to the Financial Conduct Authority (FCA) searching for ways to help investors understand and compare these charges.
Prior to 2013, there were just two fees; an annual management charge (AMC) and a total expense ratio (TER). AMC was a collection of a fund manager fee, platform charge and an intermediary fee which was an average of 1.5% while the TER combines the AMC fees with legal and administrative fees averaging 1.7%. This method was straight forward as investors knew they would be charged about 1.7% on their investment.
In 2013, the FCA while trying to promote transparency on who got paid what, changed the AMC to cater for fund management charge which is about 0.75%. Investors would then pay the intermediary (0.5%) and the platform fee (0.25%). This only meant that the investor knows exactly what he is paying for with the total amount being the same.
The difficulty arose when organizations began to display this as a flat fee, or percentage of assets while other further separated it by splitting out costs of their services and creating further price menus. This created further complex calculations and more difficulty in comparing like for like, although it increased transparency, competition amongst various platforms and fall in prices as well.
The changes at the intermediaries were mixed, with some charging less and others charging more based on the service rendered. Where there was little or no significant change in price was among the fund management faction. The FCA has now brought in two extra regulations, the first of which is a new report and the second a new acronym, this time from Europe called Mifid 2.
The FCA recommended changes that will ensure fund managers show their prices for fund management and also the estimated transaction costs for that year. Fund managers incur costs whenever they buy and sell shares on behalf of their clients. The higher the number of transactions carried out, the higher the cost incurred and vice versa.
While it might be more costly for your fund's manager to do a lot of transactions which is not necessarily a terrible thing, it is important that investors can really estimate the cost of owning a fund and this importance cannot be over emphasised. This extra transaction cost should be viewed as smart choice provided your fund manager makes a profit for you from the frequent transactions.
With Mifid 2, investors will request to see a pre sales illustration showing all the fees and upfront cost before investing. With investors, fees are essential considerations and they want to know exactly what services they are paying for.
Although most investors are concerned with the costs of investing, they are equally concerned with the consistency of performance and will willing pay more for an excellent fund. Research has shown that there is no relationship between the cost of a fund and how it performs.
The cost of funds could be reduced particularly with larger fund managements but a reduced cost of fund does not correlate with better fund. Investors just really want to avoid dealing with a lot of paper work each time they want to make an investment.
While regulating investment is great, it should not be the reason that discourages people from investing. The industry needs to find a way to encourage people to invest more to enable them to retire well as people tend to live longer these days. Regulations need to be kept simple. The simple way to achieve this is to have a consistent fee that makes comparison among fund managers easy and stress-free.