In March 2015, the FCA launched the Asset Management Market Study with the purpose of increasing transparency on charges, eliminating conflicts of interests and restoring savers’ trust in the asset management industry.
Following two years of investigation, the Financial Conduct Authority (FCA) concludes that asset managers must overhaul their charging structures and improve their governance standards.
One of the main ideas for reform is to force investment managers to present investors with an all-encompassing fee and to put two independent directors on funds boards. The study also suggests that portfolio managers should be banned from receiving "risk-free box profits" (an extra source of income that some asset managers earn when investors buy and sell out a fund).
The FCA points to weak price competition in a number of areas of the asset management industry, and concludes that a lack of competition seems to be at the root of all “evil” in the industry. As a principle, in a market, firms compete again each other on price and quality. But investment firms do not typically compete on price, particularly active retail asset management services. Indeed, the customer (investors) cannot say whether a product is suitable since returns can only be assessed in the future. In such cases, prices tend to be subjected to less scrutiny and high prices are often seen as a sign of high product quality.
The Authority also studied the relationship between price and fund performance and found that there were substantial variations in performance. The report states that active funds on sale in the UK, on average, outperformed their benchmarks, but underperformed them after deduction of charges. It found that despite such underperformance, many active assets generate “persistently high levels of profit”. According to an FCA sample, average profit margins for asset managers hover at about 35%.
Regarding the clarity of objectives and charges, the regulator raises concerns about the way in which asset managers communicate their objectives to clients, particularly with view on their usefulness for retails investors: “we find that many active funds offer similar exposure to passive funds, but some charges significantly more for this. They estimate that there is around £109billion in “active” funds that closely mirror the market which are significantly more expensive than passive funds”. Closet indexing is persistent and the FCA calls asset manager to simplify access to their benchmark.
FCA points out that investors are not all aware of how much they are charged: “Investors’ awareness and focus on charges is mixed and often poor. There are a significant number of retail investors who are not aware they are paying charges for their asset management services.”
Although the FCA recognizes that asset managers play an important role on the chain that delivers investment products to consumers, the authority also underlines that “retail investors do not appear to benefit from economies of scale when pooling their money together through direct -to -consumer platforms”.
The authority asks the government to be allowed to regulate the powerful investment consulting industry (Aon Hewitt, Mercer and Willis Towers Watson) since these consultants determine how the vast majority of UK Pension schemes invest their money.
Welcoming the report from the FCA, SCM Direct, an investment company based in the UK declared that a “Consistent and standardised fee disclosure in a single number is vital for ordinary investors to make better choices (…) this should be mandated by the FCA to retail and institutional investors alike rather than just institutional investors”.
On a more pessimistic tone, the Financial Times concludes “none of these proposals will change the fundamental anti-competitive feature of the market: the fact that fund managers sell hope”.
Read the Asset Management Market Study published by the FCA here