Terry Smith is not pleased. His top performing £16bn Fundsmith Equity Fund isn’t on Hargreave Lansdown’s new list (released last week) of the 50 top funds it recommends to its many clients, something he reckons is down to the UK’s biggest investment platform making recommendations based on how much they work for them rather than how well they work for their clients.
His key beef is with the way HL makes great play of the way in which it uses its (huge) market power to persuade fund managers to slash their fees for its clients to levels significantly below those paid by the rest of the market.That’s obviously good for HL clients – as HL says (often). But it also covers up just how high HL’s charges are.
Nick Train has for example offered a 20 basis point discount on his Lindsell Train Global Equity for HL clients, bringing than annual cost down to 0.52%. That’s nice. But HL charge another 0.45% for the use of their platform, bringing the total cost to 0.97%. Smith charges 0.95% for his fund, and anyone can buy it direct from him.
Why then, he says, should he be asked to cut his fee just to make the overall cost of buying via HL look good? Why should that be so much part of the criteria anyway (when it is not the fee, but the overall net performance that matters)? And if net performance is what matters (something HL is quick to note when challenged on costs) why are lousy performers such as Neil Woodford’s fund being included (after three years of underperformance)?
Nobody’s right in this argument
HL has perfectly reasonable sounding responses to all these questions. It chose Train over Smith because his fund “has a very similar investment style”, his fees are lower and he has a longer record (30 years vs eight). And they keep Woodford in the mix for similar reasons – he might be mucking things up now, but he has a pretty good record (running back to the late 1980s) and a different portfolio to many of his competitors (lots of exposure to UK domestic cyclicals). He has also cut his fee for HL customers. So who’s right?
No one. The Wealth 50 is a reasonable looking list of funds (only time can tell how good they really are). Fundsmith has made a lot of people a lot richer than they would have been otherwise. But price does matter. HL offers a great service to many happy customers (including me, by the way), but it is making too much money. So is Neil Woodford. And so is Terry Smith.
HL has some of the biggest margins in the FTSE. Woodford and his partners have just taken £37m out of their new fund management firm; Smith took £12m from his firm last year and owns 50% of the offshore investment services company to which Fundsmith paid another £88.4m says The Times. The latter are both entrepreneurs – and to risk takers go the returns. But still, the fact that the returns are this high tells you there is still something wrong with the industry.
Charging a fixed fee that takes your cost base into account rather than a percentage fee – or at least using a system that has the percentage fall as your assets grow – would make more sense. Fund management is one of the few areas in which the benefits of scale rarely accrue to the client.
There are some encouraging signs
There are some encouraging signs, however. Here’s Keith Doran explaining how AJ Bell charges on its (still not quite cheap enough) passive funds, for example:
“It is an oddity in the fund management market that, despite many costs that fund managers incur being fixed, the percentage charge that customers pay often doesn’t decrease as the funds grow in size. The approach we have taken is to fix the charge we levy to run the funds and then any cost savings we can achieve, either through efficiencies of scale or negotiating down underlying fund charges, automatically benefit customers. This innovative approach has resulted in reduced charges on our most popular fund by 20% since launch and we are committed to reducing the costs further across the entire range.”
If only more people were thinking along these lines perhaps the European Securities and Markets Agency would not have just released a report noting that between 2015 and 2017, average fund management fees gobbled up a quarter of all gross returns. Too much.
So should HL cut their fees? Sure. But Smith should cut his too. I don’t suppose he will (the clients keep coming). Nor will HL (ditto). Either way, before they start chucking stones at each other they should remember that they both live in glass houses. Right next door to each other.