How to spot a fund manager that's overcharging
Run your finger down the list of Australia’s 200 richest people and you’ll find 11 fund managers. What you won’t find is anyone who made their fortune investing with them.
This imbalance is nothing new. Author Fred Schwed first wrote about it in the 1940’s, recalling tourists being shown around New York’s financial district. When the group arrived at the harbour, one of the guides pointed to all the beautiful boats and said, ‘Look, those are the bankers’ and brokers’ yachts.’ – to which a naïve visitor replied, ‘Where are the customers’ yachts?’
Fund managers typically market themselves with a simple pitch: they’ll get you better-than-average returns in exchange for a fee.
There’s nothing innately wrong with that pitch. Paying up for performance makes sense in most professional services – after all, going with the cheapest heart surgeon in town probably isn’t a great strategy.
But investing is different. Fund managers account for such a large slice of the market that, as a group, their stock picks closely mirror the market’s average return. They’re all effectively buying and selling from each other, making one manager’s outperformance another manager’s underperformance. The average investor in those funds, then, will also get the market’s average return – minus the fund manager’s fees.
One in three cocktails
Management fees are necessary to cover the administrative costs of looking after your money, so you won’t be able to escape them entirely. However, fees vary widely within the industry. You might pay as little as 0.20% a year or ten times that.
We crunched the numbers for Australia’s 6,000-odd managed funds and found the average manager is charging around 1.7%. Perhaps tellingly, the best managers, those who beat their benchmark, charged less on average than those who lagged it.
Management fees never sound like much in absolute terms, which is how fund managers get away with overcharging for poor performance – indeed, our same number crunching revealed that 81% of funds underperformed their benchmark over the past 10 years, trailing it by 2.1% on average.
It’s easy to look at those figures and think ‘1% here, 2% there, it isn’t worth stressing over’. But consider what that 2% means in the context of your returns rather than assets.
If the stock market grows at 9% a year – the average of the past 30 years – the fund manager is taking more than a fifth of your return each year in fees. And, with interest rates low and valuations high, there’s a case that market returns could be just 5–8% going forward, so the manager’s slice of the pie would be even larger.
If we assume the market grows at 7%, $100,000 would grow to $387,000 over the next 20 years. The same amount invested with a fund manager charging 2% would grow to a mere $265,000 – remember, fees compound just as readily as returns. So, when you hear ‘we only charge 2% of your investment’, the manager is really saying ‘we’ll take a third of your retirement’.
With this as a backdrop, finding the right balance between performance and management fees could save you a small fortune.
To help you sort the diamonds from the rough, we’ve made our database of fund manager and industry data available to you with a new search tool called Compare Your Fund. You can type in the name of any fund you own and compare its historical performance and fees to its benchmark and thousands of similar funds, including our own.