Active vs Passive Funds

Thrugelmir

AsifM068 said:

Deleted_User said:

AsifM068 said:

27.5%! Wowsers that would hurt.

If you think that would hurt, have you seen how much is deducted from your salary?

Guess we have it quite good in the UK.

Tax rates are much lower in the USA for the wealthy.  Avoidance abounds. Reflected in the corporate culture of US companies when it comes to pay tax in general. 

JohnWinder

AsifM068 said:

Why am I paying RL an OCF of 1.2% - it makes no sense!!?!!    

Part of the answer is the unusual profitability of the UK fund management industry, the result of poor price competition. The solution is in our hands.

'The FCA’s 200-page report painted a damning picture of the industry and the value it delivers for investors. ....

More worryingly for the industry, the regulator was explicitly critical of the consistently high profits booked across the industry. ...

The FCA found that asset management companies have “consistently earned substantial profits” over the past six years, with an average profit margin, a measure how much of every pound of sales a company actually keeps in earnings, of 36 per cent. These margins are higher if the profit-sharing element of staff remuneration — essentially bonus payments — are included in the profitability calculations....

Gina Miller, co-founder of SCM Private, the investment boutique, and a longstanding campaigner for greater transparency around fees, says: “The margins are phenomenal. If you looked at equivalent-size pharmaceutical companies, their profit margin would be somewhere between 15 and 20 per cent. Most fund companies’ [margins] are closer to 35 or 40 per cent, so [they are generating] twice as much profit.....

The UK watchdog found that operating margins in asset management are high when compared with other sectors. The average margins of companies in the FTSE All-Share, the index of UK companies, are 16 per cent. Only one other sector, property investments, records higher profit margins on average, according to the FCA....

“All the data provided suggest that profitability is high relative to market benchmarks. The results of our analysis are consistent with competition not working as effectively as it could,” the regulator said....

The regulator found profit margins were far higher for retail products than for institutional equivalents. Funds sold to retail clients typically underperform their benchmark after fees, whereas funds sold to institutional investors such as pension funds slightly outperform. ' https://www.ft.com/content/962ae5d0-b30b-11e6-a37c-f4a01f1b0fa1

jamesd

That story requires a little bit of thought before taking it at face value. When you invest a hundred Pounds in a fund you do not see a drop of 36% in the value of your investment that you might expect from the story. The story seems to be forgetting that profits are not based on sales but on assets under management and the 36% on say ten million in sales is largely driven by the small percentage on hundreds of millions already invested. In this industry expressing profit as a percentage of sales is misleading.

Thrugelmir

jamesd said:

That story requires a little bit of thought before taking it at face value. When you invest a hundred Pounds in a fund you do not see a drop of 36% in the value of your investment that you might expect from the story. The story seems to be forgetting that profits are not based on sales but on assets under management and the 36% on say ten million in sales is largely driven by the small percentage on hundreds of millions already invested. In this industry expressing profit as a percentage of sales is misleading.

The mention of Gina Miller is enough to question the source. SCM don't disclose how much their margins are.   

JohnWinder

Yes, probably better to go back to the source:

FCA Asset Management Market Study Final Report 2017.

'We find weak price competition in a number of areas of the asset management industry. Firms do not typically compete on price, particularly for retail active asset management services....

However, we also found high levels of profitability, with average profit margins of 36% for the firms we sampled. Firms’ own evidence to us also suggested they do not typically lower prices to win new business. These factors combined indicate that price competition is not working as effectively as it could be....

our additional analysis suggests that there is no clear relationship between charges and the gross performance of retail active funds in the UK. There is some evidence of a negative relationship between net returns and charges. This suggests that when choosing between active funds investors paying higher prices for funds, on average, achieve worse performance....

We have concerns about how asset managers communicate their objectives to clients...We estimate that there is around £109bn in ‘active’ funds that closely mirror the market which are significantly more expensive than passive funds.

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....

1. Our analysis suggests that retail investors do not appear to benefit from economies of scale when pooling their money together through direct – to – consumer platforms. We also have concerns about the value retail intermediaries provide.'

And from the Financial Services Consumer Panel report:

'But the full costs incurred by consumers when making long- term investments are not consistently and comprehensively defined, nor understood....

Moreover, fund managers too frequently exercise poor control of costs, which are not necessarily visible to investors and which managers can deduct directly from the value of funds...These weaknesses matter greatly.

1. The lack of competition in terms of price and costs stands in stark contrast to the intensity of competition between fund managers in terms of short-term performance, and the attendant emphasis on sales marketing and product proliferation. The Kay Report refers to this phenomenon as “misdirected competition”. The metric used to judge performance is itself unreliable. Five-year performance figures, frequently used in sales and marketing, can be highly misleading,

Overall, the complexities of retail fund structures, combined with weak fund governance and asymmetries of information and power between the retail investor and the investment manager, have resulted in an extremely unbalanced principal-agent relationship. Profit maximisation combined with incomplete disclosure and poor management of conflicts of interest has skewed the basis on which healthy competition depends'.

So, we the punters need to understand costs better, and focus a bit more on those and a bit less on past performance, to put some downward pressure on costs.

MK62

As jamesd stated, the "margin" here is misleading.........a fund could make zero new sales for a year and still generate a healthy amount of fees/profits from current assets under management......margin would then be infinite on the same basis......
Not saying lower fees wouldn't be welcome of course, providing it didn't affect how the fund was run.........but there aren't many retail funds left which charge iro 1.2%, as the OP's RL fund appears to do........pension funds perhaps, but then that often includes any "platform" fee, so isn't directly comparable.
Transparency has improved over recent years, but it does seem the industry in general has to be dragged kicking and screaming to change their ways, though I suppose there's going to be resistance in any industry where it's being proposed to take a knife to their margins.

JohnWinder

Yes, 'margin' can be used in different ways. But 'profit margin' in the FT article is the same term used several times in the FCA report. Perhaps they're thinking of 'operating profit margin' rather than 'gross profit margin' which involves net sales.

If part of the industry's problem is weak governance, as the FCA report says, then we might see funds run better rather than worse with lower fees.

MK62

JohnWinder said:

If part of the industry's problem is weak governance, as the FCA report says, then we might see funds run better rather than worse with lower fees.

It's possible of course, but in the drive to force fees lower, something would have to give, so equally we might see the best talent jump from fund management into what might then be more lucrative avenues, and the industry left with just the mediocre.....and index funds.

EdSwippet

Thrugelmir said:

AsifM068 said:

Slightly off topic team but why is the UK renown for high dividend investments / stocks or have I got this wrong? 

Taxation. In other countries dividends are taxed more highly than capital gains. In the US share buy backs are a mechanism , though this is clouded by the amount of debt now on company balance sheets. Buy a French share and you'll have 27.5% deducted before the dividend hits your share account. 

Article 11 of the UK/France tax treaty specifies a maximum 15% French rate. This limits UK tax credit to 15% of the gross dividend. Overpayment of French tax needs to be reclaimed from the French authorities.

Thrugelmir

JohnWinder said:

Yes, 'margin' can be used in different ways. But 'profit margin' in the FT article is the same term used several times in the FCA report. Perhaps they're thinking of 'operating profit margin' rather than 'gross profit margin' which involves net sales.

If part of the industry's problem is weak governance, as the FCA report says, then we might see funds run better rather than worse with lower fees.

The OP doesn't want their thread derailed with your well voiced opinions on active funds.