The UK’s Financial Conduct Authority (FCA) is again showing its radical streak with the publication of proposals to shake-up the UK’s fund management industry. It is a not-so-well-kept-secret that the FCA has been one of the main drivers, and drafters, of the MiFID II regulations that push for greater transparency and value in European finance. However, the FCA’s latest recommendations for UK fund managers go above and beyond MiFID II’s push.
The Asset Management Market report published last week calls for reforms that shake up fee structures and add independent oversight in a drive to increase transparency for retail investors.
Specifically, the report calls for funds to disclose a single all-in fee, or Total Expense Ratio (TER), and place two independent directors on each fund’s board. Additionally, the reforms look to ban hidden “box-profits” which allow fund management companies to profit from bid-offer spreads on their funds at the expense of their retail clients.
Show Me the Performance
But the FCA’s focus on fees will likely impact the wider debate on performance, value for money from active asset managers, and increasing competition from low-cost passive funds.
The introduction of a single transparent fee may initially benefit passive funds, whose TERs are undoubtedly lower than active fund managers. But a standardised fee format will also focus the spotlight on performance – and managers who can show better than average performance, even if their fees are higher, should benefit. The weaker performers, whatever their fees, will lose out.
A push for transparent fee structures should, therefore, provide investors with a clear choice of fund products. Cheaper passive funds, which already account for 20% of the £7trn assets under management in the UK, can be marketed on their low-fee characteristics. More expensive active funds and hedge funds will focus on their track records, star managers and ability to deliver sustained outperformance. The middle ground and underperforming active managers will drop out.
These proposals could radically alter the fee profiles of UK asset managers and drive efficiency in the industry. The recent Standard Life tie up with Aberdeen Asset Management has shown that the industry is ripe for consolidation and this sort of change to fee structures will accelerate mergers as weaker performers lose assets.
The FCA was at pains to point out in its report that profit margins at UK managers are more than 35%, and it wants to precipitate the above changes to bring transparency and value to retail investors. But its CEO Andrew Bailey also stressed the need for a “competitive sector, attracting investment into the UK,” so maybe an unstated aim is to raise the game of UK fund managers and hedge funds.
Regulations that force all-in TERs on UK fund managers could be a dose of tough love for the UK industry in its competition with overseas managed funds that do not face similarly strict transparency rules. But as with MiFID II, the FCA could be leading the way for similar moves in Europe and a greater drive for transparency in the global fund management industry.