Asset management in the FCA’s spotlight

The FCA’s interim report into asset management has lit a firework underneath the industry - what does this mean for financial advisers and their clients?

Are investors and pension savers being ripped off? That question is the clear subtext of the FCA’s new report, which marks a milestone in its ongoing study of the asset management market. As a shake-up of the industry, the FCA’s study promises to be as significant for investment management as the RDR and FAMR have been for the advice industry – which itself will be paying close attention to the outcome of this one. Despite the interim nature of the report, it is easy to see which way the wind is blowing.

The key findings to date strike a highly critical tone. In summary, the FCA’s main points are these:

• Active-management funds offer limited competition on price. The implication is that investors often pay over the odds, and the costs are not justified by higher returns.
• The sector shows a high degree of ‘price clustering’, with the implication being that this price is too high.
• Passive-management funds offer better price completion, but the FCA still found examples of poor value for money.
• Fund objectives are not always clear.
• Economies of scale are often not passed on to the consumer.
• Performance is not always reported against a suitable benchmark, making it harder for investors to know if they are truly receiving good value.
• The asset management sector as a whole has enjoyed sustained high profits over the years, despite the high number of firms operating in the market.
• Investment consultants do not always identify the best fund managers, despite the valuable due diligence they perform for pension funds.
• There are potential conflicts of interest in the investment consulting business model.

The overall theme is clear – and it’s that investment management is currently far from clear. The FCA has zeroed in on what it perceives as a lack of transparency. It is hard for investors to tell whether the fees they are paying are justified, and without proper benchmarks many are apparently having to take this on trust. Taken together with the industry’s high profits and the clustering of prices, the insinuation that hangs over the report is that investors are being exploited.

Given that the term ‘investors’ include not just high-net-worth individuals playing the stock markets, but every individual with a pension fund, the report’s potential impact is far-reaching. Financial advisers, in particular, need to be confident that the funds they recommend are truly as suitable as they appear to be, or they themselves risk accusations of mis-selling. The report acknowledges that transparency is of limited value to the average private investor, who tends to place an over-reliance on past performance, but it would certainly make the adviser’s task more straightforward as well as less risky.

The FCA's response

The FCA has proposed a number of potential steps that could be taken to improve outcomes for investors:

• Asset managers should be held to account for how they deliver value for money, and should have more of a duty to act in the best interests of investors.
• Investors should be charged an all-in fee so they can see exactly what they are paying.
• Asset managers should have a duty to be clear about the objectives of the fund, use clearer and stronger benchmarks and provide investors with tools to help them identify persistent underperformance – all of which should help investors and their advisers to make the best choices with confidence.
• It should be easier for retail investors to move into better value share classes.
• Fund charges should be more clearly communicated, as should their impact at the point of sale, and this communication to retail investors should be ongoing.
• Costs and charges for institutional investors should have greater standardisation and transparency.
• The potential benefits of greater pooling of pension scheme assets should be more fully explored.
• There must be greater and clearer disclosure of fiduciary management fees and performance.

The FCA’s chief executive, Andrew Bailey, said, ‘In today's world of persistently low interest rates, it is vital that we do everything possible to enable people to accumulate and earn a return on their savings which can meet their lifetime needs. To achieve this, we need to ensure that competition in asset management works effectively.’ Though he ruled out a price cap, arguing that this would hamper competition, he went on to say, ‘We want to see greater transparency so that investors can be clear about what they are paying and the impact charges have on their returns.’

What does this mean for financial advisers and their clients?

The scathing criticism of actively-managed funds, and their unfavourable comparison with passive funds, may prompt many private and institutional investors to review their investment strategies. The report’s claim that the fees incurred by actively-managed funds are ‘not justified by higher returns’ may prompt a major shake-up in how individuals and pension funds choose to invest. In particular, the FCA’s finding that a market-tracking passive fund could outperform an active one by 44 per cent over 20 years, due to lower charges, is damning.

The FCA’s proposed solution of greater transparency is one that advisers and their clients should welcome – and the industry should too. Most investors would willingly pay higher fees if they could clearly see a greater benefit resulting from active management – the problem is that, at present, this is hard to do. If the asset management sector is to remain competitive, it must start proving its worth, which means demonstrating exactly how higher fees are translating in to better results. This, in turn, will enable advisers to recommend their platforms with more confidence, and reduce the risk of mis-selling accusations further down the line.

Conversation starters for your clients:

• Have you heard about the FCA’s investigation into asset management?
• Do you know if your pension fund is actively or passively managed?
• Do you know how your pension fund has performed over the past 10 years compared to the market as a whole?
• Are you aware of all the fees incurred by your investments / pension fund? Would you like me to review your investments to see what you’re paying in charges?

You can read the full FCA interim report here: https://www.fca.org.uk/publication/market-studies/ms15-2-2-interim-report.pdf