One year ago this month, landmark rules came into force obliging UK asset managers to come clean about the value offered by their products.
Introduced by the Financial Conduct Authority following its 2017 asset management review, the regime requires investment groups, with the input of new independent non-executive directors, to carry out annual audits of their funds justifying their fees and performance.
The regulator hoped the exercise would increase accountability and restore investor trust in the sector, which plays a central role in overseeing the retirement savings of millions of UK workers.
But progress has been slow, held back a lack of industry-wide standards, ingrained cultural practices and the desire by some fund managers to preserve the status quo.
As the FCA embarks on a probe into the first round of the so-called value assessments, FTfm examines fund managers’ efforts so far.
Lack of action on underperforming funds
One objective of value reporting is for managers to identify improvements to funds that are short-changing investors.
“Remedies are an important plank of the value assessment process,” said Simon Ellis, a former HSBC Global Asset Management executive who is an independent non-executive director on two fund boards. “Clearly we wouldn’t have had to do this exercise if everything was perfect.”
Yet remedial action has been visibly lacking from the first batch of value reports. According to the Fund Boards Council, a group representing fund directors, of the 135 statements published so far, just 4 per cent set out clear steps to improve their funds.
Many managers saw the process as a “damage limitation exercise”, rather than an opportunity to cull failing funds, as the FCA had hoped, said Mr Ellis. Only nine funds — products from Baillie Gifford, Franklin Templeton, Jupiter and Ninety One — have been closed so far, according to Financial Times analysis of statements from 25 of the UK’s largest fund managers.
Chris Sier, former chair of an FCA asset management disclosure initiative, applauds managers who shut funds. “Closing a [poor-value] fund is a clear statement that you only want to have good value for money,” he said.
Other fund managers took the route of initiating reviews of underperforming funds, which could lead to closures or mergers later on. These included BNY Mellon, which flagged problems at its £12.7m Osprey fund, and M&G, which promised fresh action on its Recovery fund, a chronic underperformer.
However, some groups only gave vague assurances that they would monitor the progress of underperforming funds, which Mr Ellis describes as a way of “buying time” as opposed to committing to concrete action.
Standard Life Aberdeen, for example, flags the long-term poor performance of its former blockbuster Global Absolute Return Strategies, or Gars, fund in its value report. While SLA lists steps it has taken to improve returns, it does not specify when or how it will decide whether the fund has turned a corner.
Limited action on high fees
Criticisms of fund fees were central to the FCA’s 2017 report into the sector, which highlighted weak price competition and retail investors languishing in outdated, pricey share classes.
The regulator’s message appears to have been taken on board by at least a section of the asset management world. Schroders, Columbia Threadneedle and Jupiter all shifted investors into cheaper share classes after completing their assessments. About 320,000 customers have been moved so far, generating combined savings of £32m, according to estimates by the Times newspaper.
But not all groups have cut their fees, and some argue the reductions are too little too late. Transparency campaigner Gina Miller says the £32m figure represents “a drop in the ocean compared to overall industry revenue of £21bn per annum”.
Ms Miller, who said that many of the value reports were “no more than a worthless tick box exercise”, pointed to the example of wealth manager St James’s Place. “Less than 50 per cent of its funds were found to offer ‘good value’, yet they have not offered clients any fee reductions so far,” she said.
St James’s Place said most of its funds had delivered value, adding its ‘amber’ rated funds, strategies that warranted additional attention, offered value overall. It said its fees, comprising a 5 per cent entry fee combined with annual fund charges of up to 2.5 per cent, reflected the fact it offered financial advice as well as investment management.
Mr Sier argued that while cutting fees was eye-catching, it was only meaningful if accompanied by concrete steps to improve performance. “Only if you do both will you get good value for money,” he said. “Cutting fees on an underperforming fund just makes a bad fund cheaper.”
Inconsistent processes for identifying failing funds
The lack of prescriptive guidance from the FCA on how managers should define value means that the first round of assessments vary widely from manager to manager.
The fact that some managers with high-profile performance issues did not identify a single failing fund raises questions about whether some groups have taken a wide-ranging interpretation of what constitutes value. For example, Hargreaves Lansdown’s value report was blasted as a “whitewash” by investor campaigners for giving a clean bill of health to its multi-manager funds, despite their large exposure to the failed Woodford Equity Income fund.
“A key test for me is if the report states how it arrived at its conclusions, rather than just providing a list of outcomes,” said investment industry veteran Philip Warland, who serves as an adviser to the FBC.
Mr Sier pointed to Baillie Gifford’s report as an example of good practice. It details how it assessed the performance and costs of its funds and explains its use of a peer group of similar funds for comparison, rather than relying on a broad category.
But not all managers provided such full explanations.
Shiv Taneja, chief executive of the FBC, said there was “little point in having a thorough review and challenging [the value of funds] if none of that gets represented in the report”. However, some groups may have sought to avoid overwhelming investors with information in what is meant to be a consumer-friendly document.
Limited input from independent board members
Fund managers’ value statements are just a snapshot of a wider governance transformation that the FCA wanted to set in motion through its reforms. By mandating the appointment of independent non-executive directors to fund boards, the FCA expected to see a change in culture at fund management groups, with outside voices challenging executive “group think” and standing up for investors.
“In the past, fund boards were essentially glorified ExCos” where company insiders would sign off on everything from setting fee levels to appointing portfolio managers, said Mr Ellis, who became an independent non-executive last year. “Now they are more like real boards, where the independent directors hold executives’ feet to the fire.”
However, the weaknesses in the first round of value reports suggest that this transformation has not yet taken place. Mr Ellis pointed out that non-executives were not yet well established on fund boards and they remained outnumbered by company executives.
Several of Mr Ellis’s peers have complained that company executives are not yet used to the process of dealing with independent challenge. As a result, they are either not prompt in supplying information to non-executives or provide reams of meaningless data that make it hard for them to do their job.
The industry will be watching to see if the FCA intervenes to punish poor practices following its current review into the new rules, which includes assessing whether non-executives are demonstrating they have sharp teeth.
Paul Boughton, founding partner of MosaicNED, a training provider for independent directors, said little would change until independent non-executives make up a majority of fund boards, instead of one quarter as now, and until board chairs are required to be independent.
But Mr Taneja said the radical cultural change instigated by the FCA’s reforms will take time to bed down. “The Cadbury report [on corporate governance reform] was published in 1992 and we’re still talking about it today. If we expect the fund industry to make such fundamental changes in the first year [of new rules coming in], we’re asking too much.”
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