This is fascinating. It’s an interview with Charles Payne, a long-standing TEBI reader, who recently left the UK fund industry, having worked in it 35 years. In that time he’s worked for some of the biggest institutions in the City of London — Henderson, Gartmore, UBS Asset Management, Kleinwort Benson, Chase Manhattan Bank — but he’s probably best known for the 14 years he spent at Fidelity International, where, among other things, he served as Investment Director and Head of Equity Product Management.
In the interview, I ask Charles Payne about his experiences of the industry, the FCA report on competition in asset management, the arrival of MiFID II, the future of active management and, finally, corporate ethics and culture in the City. Everyone who wants to understand the fund industry should read what he has to say.
I present the interview with no comment whatsoever from me, but I’d be very interested to hear other people’s views.
Charles, you’ve worked in the UK fund industry since 1982 and rose to director level at Fidelity, one of the biggest names in global asset management. How would you summarise your career and what you learned?
At the start of my career asset management was very much the Cinderella of the finance industry. Big Bang established sell-side brokers as the Masters of the Universe, as Tom Wolfe brilliantly captured in Bonfire of the Vanities; they controlled all access to the market and if you wanted to buy and sell anything, the only way you could do it was via them. Slowly during the late 1990s and 2000s, there was a discernible shift in power towards the asset management industry as they realised that it was they who controlled the flow of assets to the market and that brokers could not function without the capital they controlled. It is no coincidence that this was the period when we first started to become aware of ‘star’ fund managers who up till that point had been able to quietly go about their work in almost total obscurity.
The investment industry has enjoyed this shift in the balance of power slightly too much, however, and so have been late to realise that, since 2008, asset owners have woken up to the fact that the assets were theirs all along. This realisation is in part, I think, due to the transition of pension arrangements from DB to DC; as a DB scheme member, the amount the external manager charged didn’t impact your pension in any direct way at all. However, as a DC member, it does in an extremely real way.
My experience of talking to people who work, or used to work, in UK asset management, is that there’s a general awareness now that things have to change, that the industry needs to be more transparent and add more value. Is that your experience too?
Clearly yes. The NYU Stern analysis of business margins divides the economy into 93 industries and calculates gross and net margins for each. In January 2018 their Investment and Asset Management category had the seventh highest net margin at 22% — three times more than the rest of economy excluding all the financial sectors. Somehow we seem to have forgotten that financial services are there to provide services to the rest of the economy, not be the economy.
To be fair, this isn’t an observation limited to asset management; the five main financial sub-sectors all appear in the top seven highest-net-margin industries. If you live your life in the financial echo chamber then what you are charging doesn’t appear excessive compared to other parts of the financial industry; but when viewed from the perspective of the rest of the economy, sustained margin pressure is inevitable. So the next ten years have to be about asset owners demanding better products with better sharing of returns at lower costs with greater transparency — of that there can be no doubt.
What did you make of the FCA report on competition in UK asset management? The interim report, in particular, was very critical. Did that come as a surprise to you?
Having worked at a number of large houses, I have to say it didn’t, no. In legal competition-speak, I don’t think there is an obvious cartel at work per se in the asset management industry. What there is, however, is a generally accepted set of practices whereby client and manager interests are not clearly aligned, and which are underpinned by the spurious assumption that it costs twice as much to run £500 million as it does £250 million. What the new disrupters have done is to fundamentally challenge these accepted norms, accept that this will result in lower margins, and build corporate models that can thrive in such an environment.
While Vanguard may appear to be the biggest current threat to the large incumbents, I actually think that Ant Financial represents the clearest view of what the new disrupters will look like. It’s a strange paradox that the current industry dominators view the inexorable increase in regulation as being a threat to their business model; in fact I think it constitutes the largest barrier to entry, and that it has to date been the most significant single factor stopping the likes of PayPal, Amazon, and eBay from storming the barricades. However, in the long term, it is hard to see this barrier as anything but temporary, and Ant Financial as anything other than the first of many such disrupters.
Now, of course, since the introduction of MiFID II, fund managers have to explain in full exactly how much customers are paying by law. Even still, many fund houses are still withholding information. What’s your view on that?
I think there are two problems here: how to calculate the total costs the client experiences, and whether to publicise them. To be fair on the first point, the regulations suffer from the usual problem of trying to describe mathematics in legal language. This seldom works as anyone who has tried to describe a performance fee calculation in English knows well. It is clear from looking at the numbers that have been published in the first six weeks since MiFID II came into being that different firms are doing it in different ways, but I am confident that with time a more consistent and level playing field with regards to calculation will emerge.
What is more disappointing is that a number of firms are taking the “day 1” position that they only have to disclose the MiFID total costs to existing clients, not publicly, as evidenced by a recent piece of Financial Times investigative journalism. The legal basis for this will undoubtedly be challenged, not least by Gina Miller in her latest letter to the FCA.
However, irrespective of the legal position, the only acceptable response from both an ethical and commercial point of view is to tell your clients the true total costs of what you are selling them in an industry-standard way. Even if you don’t accept the ethical imperative to do so, the commercial argument is to my mind clear — clients are far from stupid and faced with a decision between two suppliers, they will be significantly more likely to buy the one that discloses its full costs compared with one that doesn’t.
I notice you lecture in business ethics, as well as asset management, at different business schools. What sparked your interest in the subject?
Gillian Tett of the FT writes particularly well about investment, not because she is a finance expert, but because she was formerly an academic anthropologist, and as such is well placed to take an objective view of the belief systems, ethical codes, herding instincts and behavioural patterns of those who work in it. Having studied anthropology as well this always resonated with me. If you work in a “bubble” with people from a similar academic and social background as you, you run the risk of living in an ‘echo chamber’ where everyone reinforces the continuation of the status quo and prevalent business ethics.
Being a fund manager is genuinely hard, not so much technically, but from a behavioural perspective. We require them to have conviction, take decisions, and have the courage to stand alone when they have a view that isn’t shared by the rest of the market. It is unsurprising then that when they are right, there is an all-too-human temptation to become arrogant and believe their own infallibility; equally, when things aren’t going well, the pressure on personal ethics to avoid losing face is undeniable.
You can run as many quant screens on funds as you like; I still put more faith a manager who has the time to say hello in the corridor, and from whose demeanour you wouldn’t know if they are 500bps ahead of, or 500bps behind, the market. And perhaps asset managers should consider employing someone like the slave at victory parades in Ancient Rome, whose sole job was to keep whispering in the triumphant general’s ear, “Remember you are mortal”.
There’s been plenty of discussion about business ethics and the general working culture in the City of London, particularly since the global financial crisis. In your view, should we be concerned about it?
I am disappointed to say that yes, we should be. Ethics are a complicated and individual issue; Maynard Keynes is reputed to have said that “capitalism itself is the astounding belief that the most wickedest of men will do the most wickedest of things for the greatest good of everyone”. To my mind, the overarching problem is that we have outsourced our personal ethics to primary regulation and the compliance department. As an industry, we have fallen into the trap of believing that if regulations don’t specifically prohibit us from acting in a certain way, then we can do so with impunity. And as will happen when you have a lot of very clever people poring over legislation for loopholes, they will inevitably find some and take full advantage of them, so the regulators always risk being one step behind the practitioners. If this is the way you view regulation and ethics, then you cannot be surprised that, to the person on the top of the Clapham omnibus (otherwise known as your client), the finance industry periodically looks morally bankrupt, even though legally it is rare that miscreants can be brought to book.
The MiFID II disclosures run the risk of being the latest in this line of ethical outsourcing. Just because you believe that you can interpret the rules as saying you don’t have to openly publish your total client cost figures, pause for a moment and think about just how badly it will look to your potential and actual clients if you don’t. It is, after all, their money. Regulation should be there as the final safety net when personal ethics fail, not a wholesale replacement for them.
Finally, you presumably had a well-paid job in asset management. Are there ever times when you regret leaving all that behind?
As an archaeologist, Robin, I have probably excavated too many skeletons to believe that you get a second go at this, so 35 years in the industry was probably enough! I have been lucky enough to have a privileged view of an industry during a fascinating period in its evolution, to work with a gratifyingly large number of colleagues with intelligence, humour and strong personal values, and of course to be paid well for doing so.
It is a bittersweet feeling – I miss having the opportunity to help the industry find a better model, a better dialogue with its clients and a better raison d’être. Equally, I too was a part of that “echo chamber”, and it is only when you step outside of it that your mind gets the perspective it needs to get a clearer sense of the bigger dynamics and drivers of the whole ecosystem that investment management forms part of.
The key thing is – I am lucky enough to keep learning. I lecture at several business schools, where I am sure I learn more from the Millennial generation than they do from me. I work with a small but fascinating list of investment boutiques whose ethos and abilities I admire and who are generous enough to think I can help them on some of the issues discussed above; and as volunteer Chair of Finance and Resources at my local state secondary school I now understand what financial pressure in the real world feels like!
As the first of my family to go to university and the first to work in the City, 35 years ago I decided that I would work in the industry for as long as I recognised myself in the mirror in the morning; I hope I managed at least that.
Next time: Charles Payne gives his opinions on the rise of low-cost investing and presents his 11-point plan for transforming active management
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