Fidelity’s new charging structure — not exactly generous
Posted by Robin Powell on October 4, 2017
Fidelity threw the cat among the pigeons yesterday. The Bermuda-based fund giant announced that, at least in the UK, it’s overhauling its charging model. Though it declined to give any details, Fidelity will soon be offering equity funds that charge a slightly higher fee when they outperform the market, and a lower one if they don’t.
“These changes,” said Fidelity President Brian Conroy, “will more closely align the performance of our business with the performance of our clients’ portfolios and deliver what we believe clients and regulators are looking for.”
So, what are we to make of Fidelity’s move? Well, the first thing to say that it isn’t motivated by altruism.
Although it does now offer competitively priced passive products too, Fidelity is a staunch advocate of active management. Over several decades it has raked in huge fees and made very healthy profits off the back of, frankly, very poor performance compared to market benchmarks.
It now faces a two-pronged challenge to its business model. First there’s the growing awareness among the British public (thanks, in part, I like to think, to blogs like mine), that active management is a bit of a rip-off. Secondly, along with the rest of the asset management industry, Fidelity is finally coming under closer scrutiny from the regulators; the Financial Conduct Authority issued a damning report on the sector in the summer, while MiFID II, a European directive requiring fund houses to be much more transparent about the fees they charge, is due to come into force in January.
As Mr Conroy himself admitted, Fidelity’s decision to change its fee structure is partly a response to those regulatory pressures. What is disappointing is that, unlike most asset managers, Fidelity will continue to pass on the cost of investment research to consumers.
Nor, it must be said, are performance-related fees quite the generous deal that Fidelity would like us to think. Remember, the only logical reason for paying an active manager is that you expect them to produce higher net returns than you’d receive if you simply invested in a comparable low-cost index fund. Over the long term, around 99% of active funds (including Fidelity’s) fail to outperform the market. Reimbursing part of its management fees for underperformance is one thing; paying us back the money we lose relative to investing in an index fund is quite another.
Some have taken a cynical view of Fidelity’s move, and understandably so; however cynical you are about this industry, it usually isn’t cynical enough.
The FT’s Lex column, for example, pointed out that Fidelity has “covered its risks well”, and that “funds using the new fee structure will appear alongside existing ones, giving (it) the option of quietly reverting if the concept is unpopular”.
I also agree with Lex is that the complexity of performance-related fees, or fulcrum fees, is a challenge for Fidelity and other firms that choose to adopt them. Increasingly consumers are demanding simplicity and transparency; fulcrum fees don’t really offer either.
All that said, I do believe that Fidelity’s announcement is highly significant. For the first time, a major active management company has acknowledged that there needs to be a closer link between how much investors pay and the value they actually receive.
The traditional charging model, as research by Cass Business School and others has shown, is far too heavily skewed in the interests of the fund provider. We can’t keep paying active managers handsomely for failing to do their job.