Over the next couple of months, the cost of investing will be laid bare as part of the next round of charges disclosure under Mifid II.
As you will no doubt be aware, the first batch of ex-post ('after the fact') statements is about to land on clients’ doorsteps.
Under Mifid II, firms and advisers are required to disclose all personalised and aggregated costs and charges to investors and clients as a forecast (ex-ante) and then actual costs incurred (ex-post).
The aim is to give clients a transparent picture of how the costs they incur relate to their returns, enabling them to make informed decisions about the value of the service they’re receiving.
But the arrival of these ex-post statements means clients are about to see their costs with little context of what they’re actually paying for. They will want to know they are receiving value for money.
Although the level of charges incurred won't have changed, there might be some concern when clients see the granular detail on costs for the first time, particularly without the full context.
Sometimes the comparison is made between the additional costs of a discretionary fund management (DFM) service and the costs of buying and running a car, that is, the more you get out of it, the more it will cost you.
Clients who’ve opted for a DFM service have already decided they want more than the basic model and a more personalised experience. But as with a car, in turn that means spending a bit more upfront and on the annual running costs.
So here are some things to consider in approaching the ex-post conversation with clients:
Stretching the new car analogy a bit further, it's well established that you take a hit upfront as soon as you drive it off the forecourt. Equally, the year one purchase costs of investing cash or other assets in order to create the right bespoke portfolio will incur some upfront costs.
Transaction costs can also vary for other reasons.
Take the latest period of volatility for example: an active portfolio manager may have taken profits after strong gains, then taken advantage of the sharp declines to buy more attractively valued shares.
Transaction costs will have gone up, but this is what we pay active managers to do – to actively secure the best risk-adjusted returns. A passive fund may be cheaper, and perfectly fine if you just want the basics, but all it can do is follow the gyrations of the markets.
Or take the case of a client who has only recently invested. Putting that money to work initially will cause an unexpected spike in ex-post reporting, so in this case it's worth a quick explanation of this to try and avoid any shock.
Discretionary fund management is a broad term which spans a range of personalisation. What's best for a client will depend on many factors, including their personal circumstances, the complexity of their tax and financial affairs, what they would like to achieve with their wealth and how much contact they need to have with the person managing their investments.
The level of personalisation can vary widely, and the costs also vary accordingly.
It's worth considering the other services an active fund manager provides.
Capital gains tax management alone is virtually a career in itself. While it's great when investment decisions go to plan, these upswings can push up capital gains liabilities. It takes time and skill to manage these on a client’s behalf and make sure the benefits of a smart investment decision don’t get eroded by tax more than necessary.
The costs of meeting clients’ investment objectives will also rise according to their time horizon and the complexity of their needs. Some objectives will require higher maintenance and greater demands on a manager’s time. This time is invisible to clients but inevitably comes at a cost.
Different types of investment will also affect costs. For example, the cost of buying and selling property is much higher than that of bonds.
Clients may not appreciate the different charges when they are deciding their investment preferences, but their ex-post calculation will show just how varied costs can be. Again, a quick explanation should be all that's needed to alleviate any potentially nasty surprises.
Overall, there will be times when costs are too high, but in general, the charges should reflect the level of service clients receive.
So when all the ex-post disclosures are laid out, ask whether or not the client is getting the right level of service for the price they are paying. The more bespoke and personal the service, the more it will cost. The old adage holds true: you generally get what you pay for, and value for money is not just about price.
It's worth considering whether the upcoming ex-post disclosures can be seen an opportunity to discuss the benefits of the total service you are offering to clients.
This level of transparency can provide clients with real insight into the value of active management. There is the potential for clients to come away with a greater level of understanding that they are getting the level of service and personalisation that’s best for them.