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ISA Index Tacker Charges - please help

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Hello everyone, I am currently in the process of cleaning up some of my finances and have turned my attention to the Index Tracker ISA I currently hold with Legal and General, and would be appreciative of some guidance.

I currently make a regular monthly investment of around £500 into the Legal and General UK Index Trust fund, which itself has a 0.56% annual management charge. I have done some additional reading on alternative ways to invest in tracker funds through a stocks and shares ISA, and now believe I might be paying more than I need to for a passive fund.

I did not realise previously that there are additional charges above and beyond the annual management fund which are not explicit. Is it correct that when I pay £500 into the account on a monthly basis via direct debit, there are fees taken out of this £500 to purchase the underlying assets (which are in addition to the annual management charge of 0.56%) thus pushing the actual charge to me of investing up significantly?

I have scoured Legal and General's website to try and find where these costs are located, but it seems they are not available online and can only be acquired by requesting a physical copy from them directly.

The alternative seems to be to open a stocks and shares ISA with Halifax or other platform, then invest directly in a Vanguard tracker (or similar) - then I will pay similar transaction charges every month when I regularly invest, but with up to a fifth of the annual management charge (Vanguard I believe is currently at 0.08%).

Is this interpretation correct? Any help gratefully received.
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Comments

  • Superscrooge
    Superscrooge Posts: 1,171 Forumite
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    0.56% seems very expensive for a UK index fund. Fidelity charge 0.06%

    https://www.fidelity.co.uk/investor/tracker-funds/our-range.page
  • Thanks - I understand that it is much higher, but to your understanding are the assumptions in my post correct?
  • jimjames
    jimjames Posts: 18,678 Forumite
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    Thanks - I understand that it is much higher, but to your understanding are the assumptions in my post correct?

    Any tracker or other fund will have transaction costs for buying and selling. They aren't all included in the quoted fee but that's not unique to any one company.

    If you're not investing via a S&S ISA then you are potentially missing out on valuable tax benefits long term.
    Remember the saying: if it looks too good to be true it almost certainly is.
  • dunstonh
    dunstonh Posts: 119,705 Forumite
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    The 0.56% version is the pricing for the off-platform share class. So, there are no other charges when that is held.

    The institutional version is class I at 0.10% although some platforms may only retail the class F version at 0.36%
    I am an Independent Financial Adviser (IFA). The comments I make are just my opinion and are for discussion purposes only. They are not financial advice and you should not treat them as such. If you feel an area discussed may be relevant to you, then please seek advice from an Independent Financial Adviser local to you.
  • OK, understood, but I am currently investing via a S&S ISA with L&G.

    Is it just that I am paying more for the convenience of them direct debiting my account by £500 a month and investing that, whereas if I were to use a DIY S&S ISA, say with Halifax, and select the fund I want to invest in (Fidelity, Blackrock, Vanguard) I would have to manually invest the £500 every month, but it would work out cheaper?

    Thanks for your patience.
  • jimjames
    jimjames Posts: 18,678 Forumite
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    OK, understood, but I am currently investing via a S&S ISA with L&G.

    Is it just that I am paying more for the convenience of them direct debiting my account by £500 a month and investing that, whereas if I were to use a DIY S&S ISA, say with Halifax, and select the fund I want to invest in (Fidelity, Blackrock, Vanguard) I would have to manually invest the £500 every month, but it would work out cheaper?

    Thanks for your patience.

    There is no difference really. If you went via another platform you'd pay a platform charge as well as the fund charge. There is no difference between investing by DD or manually for most platforms, in fact monthly DD is normally cheaper.

    You may find it a bit cheaper, say with Fidelity it's 0.25% annual platform fee plus the fund cost, say 0.06% for the fund so total 0.31% vs 0.56%. Actually more significant than I originally thought.
    Remember the saying: if it looks too good to be true it almost certainly is.
  • jimjames
    jimjames Posts: 18,678 Forumite
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    dunstonh wrote: »
    The 0.56% version is the pricing for the off-platform share class. So, there are no other charges when that is held.

    Is it correct though that the OCF doesn't include ALL costs for the fund?
    Remember the saying: if it looks too good to be true it almost certainly is.
  • bowlhead99
    bowlhead99 Posts: 12,295 Forumite
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    edited 7 February 2016 at 9:41PM
    0.56% seems very expensive for a UK index fund. Fidelity charge 0.06%

    https://www.fidelity.co.uk/investor/tracker-funds/our-range.page
    Well yes fidelity charge 0.06% for the fund, but you have to hold that fund on a platform, which costs money. For example, the pricing for Fidelity's own platform (accessed by clicking 'charges' on the link you supplied) costs 0.35%, so it would really be 0.41% all in. You wouldn't have to buy on Fidelity's own platform, for example you could spend more and buy it on Hargreaves Lansdown's platform or spend less and buy it on Youinvest's platform.

    But while at first glance it seemed Fidelity was a nineth of the price of the L&G ISA, it was not an apples to apples comparison because L&G weren't charging you separately for 'platform access' like a fund supermarket would, when you bought it direct as an ISA product. You're right that it is not particularly cheap, but 0.56% all in is not a lot worse than what some people do which is pay 0.45% to Hargreaves Lansdown for a platform and 0.08%+ on top for the fund. It is certainly cheaper than going to Virgin and paying 1% all in.

    Going back to the original question:
    I have done some additional reading on alternative ways to invest in tracker funds through a stocks and shares ISA, and now believe I might be paying more than I need to for a passive fund.
    Yes, as you say (and in Superscrooge's example) you can buy a tracker (plus pay the ongoing fees to a fund supermarket to give you an fund supermarket platform to hold it on and an ISA wrapper) cheaper than your current total of 0.56%.

    Alternatively you could use an 'ETF' which is an exchange traded fund bought through any stockbroker - these can have low ongoing fees and often do not need any ongoing percentage-based 'platform' fees to be paid, but you will pay a transaction charge when buying and selling which might not work out very cost effective, if you are only buying a few hundred pounds each month.
    I did not realise previously that there are additional charges above and beyond the annual management fund which are not explicit. Is it correct that when I pay £500 into the account on a monthly basis via direct debit, there are fees taken out of this £500 to purchase the underlying assets (which are in addition to the annual management charge of 0.56%) thus pushing the actual charge to me of investing up significantly?

    I have scoured Legal and General's website to try and find where these costs are located, but it seems they are not available online and can only be acquired by requesting a physical copy from them directly.
    jimjames wrote: »
    Is it correct though that the OCF doesn't include ALL costs for the fund?
    Yes and no. An OCF (ongoing charge forecast) includes the 'ongoing charges' which are normal everyday operating costs, and it includes the management fee too. It doesn't capture capitalised expenses directly attributable to the purchase activity which are rolled up into the cost of each individual company investment for accounting purposes.

    Effectively if you and me and a bunch of other people put money into a collective investment scheme for them to buy an investment portfolio on our behalf, there are a variety of costs which are incurred by the fund. The fund has ongoing operating costs like bank charges, accounting and audit and reporting costs, payments to professional advisers, fund administrators and custodians or depositaries, in addition to the fund manager's management fee. All those sort of costs are covered by the 'ongoing charges forecast' of the 0.56% or 0.2% or whatever: e.g. the fund is £100 million in size and they think all those costs are going to be £560k or £200k annually, they will say the ongoing charge is 0.56% or 0.2% respectively.

    There are, as you say, some other costs which are harder to see because they get caught up in the way an investment fund does its accounting.

    For example, HSBC gets promoted into the index one quarter, having previously been too small to qualify for the index, but now it makes up 1% of the total index so the fund has to go and buy HSBC shares, to 'track' the index.

    The fund goes out to spend £1 million on HSBC shares. However, due to the cost of stamp duty and charges from its stockbroker arranging all the trades, the £1 million that it had set aside to buy HSBC shares might only buy shares which are worth £994,800 the very next minute, because the fund wouldn't get its broker commissions and its stamp duty back just because it chose to immediately sell the shares. The fund will still write down in its books that it spent £1million buying HSBC shares, because it did.

    The next day, you decide to put more money in the fund and invest £10,000 to buy new shares so the fund needs to go and spend £10,000 on new assets because it will not succeed in tracking the index and making good returns for everybody if it just leaves your money in its bank. However, that same day, I am withdrawing £9000 of my money from the fund because I want to go take it elsewhere, so the fund only has a net cash inflow of £1000 that day. It still needs to 'use up' the money, so it goes and buys a portfolio of shares including HSBC and others. It allocates 1% to HSBC which is £10. That might get it 9.94 of HSBC shares plus stamp duty plus broker commissions.

    So, by day two of the quarter the firm has spent £1,000,010 on buying HSBC shares, although because some of that was spent on stamp duty and other commissions, the underlying shares might have only cost £994,809.94, if you could buy shares without paying stamp duties and paying brokers, which you can't. Of course, share prices change several times a second and the shares could be worth £1,001,234 for all we know.

    At the end of the year, the HSBC shares are worth £1,100,000 and it declares that it has made approximately 9.999% gain since buying them (1,100,000 / 1,000,010 = 1.099999). Actually, for the shares to be worth £1,100,000 they must have appreciated in value from £994,809.94, which is a bit more than a 10% gain, but near enough. There will be other companies which they hold which have doubled in value and other companies that have halved in value and some of them will have attracted stamp duties and some of them will not, depending on the country in which the company is incorporated. Most of the companies held will not have had much in the way of buys and sells. So the additional performance 'eaten' by stamp duties and broker commissions on HSBC, a tiny portion of the portfolio, will just get lost in the roundings.

    Most of the companies will not enter or leave the index in a particular quarter anyway, they will just be held. A company that was once 0.5% of the index might grow fourfold to be worth 2% of the index but the fund held the company when it was cheap and its investment naturally grew in value fourfold - so it doesn't need to invest any more money to have that company be 2% of its portfolio. Index funds do very little trading because the portfolio mix is quite static, they only have to buy more shares to top up the portfolio when they get net new subscriptions (like you joining with your £10k when I leave with my £9k and they have spare cash).

    The stamp duties of a few pounds caused when the net new £1000 is invested, just makes the cost of the investments a bit higher than it would have been if they could have bought without paying stamp duties. But this is on a £100 million fund and is typically not very material.

    At the end of the day, the total reported performance that you see as a change in total NAV of your holding from buying one year to selling the next, is a bit lower than it would otherwise have been, due to 'hidden' capitalised costs which it is hard to put a finger on. But the actual declared NAV is the actual NAV you buy in or sell out at, so nothing is truly 'hidden'. You can see exactly what the performance is.

    If the underlying index starts the year at A and ends the year at B, while the fund starts the year at A and ends the year at C, you can compare C with B and see how well the fund has tracked the index. If C is a lot worse than B, it indicates you have lost money, from a combination of ongoing charges (the declared management fee and other everyday costs) and the capitalised costs described above which are harder to see. So if the index goes up 5.00% and your investment only goes up 4.40%, and you were expecting your investment to go up 4.44% because you thought the ongoing charges were only 0.56%, then it is obvious that there is some other additional 'tracking error'.

    Some of this will be due to the effect of capitalised costs as described above, and some of it will be due to other factors like just how efficiently they manage all the buys and sells for companies joining and leaving the index and how efficiently they manage the cash float to accommodate people leaving and joining the fund part way through the year. Sometimes the tracking error could actually be positive, say for example a company leaves the index but they don't sell out of it for three days, they might accidentally make more profits than if they had sold on time.

    Generally you would hope the tracking error (on top of the known ongoing charges) shouldn't be more than about 0.05% a year but even if it is, the fund might still be suitable for your objectives. If the fund consistently underperforms the index by more than its stated charges, it is worth shopping around for a better one.
  • Thanks for the explanation bowlhead99, that made a lot of sense.

    A difference of 0.15% between the L&G S&S ISA product and the Fidelity S&S ISA route of platform + fund seems small, but I suppose it's worth doing once the fund (eventually) starts to grow.
  • Interesting that we should be talking of less than 1% on fees, when the underlying asset is Down by 20% plus !
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