Luxury goods are expensive because quality comes at a price. First-rate staff command high wages because if you pay peanuts, you get monkeys. Even beer may be deemed to be “premium” if it is Stella Artois because it is “reassuringly expensive”. It seems every aspect of an aspirational lifestyle is based on the premise that you get what you pay for. But there is one area in which, ironically, the opposite is true: wealth management.
Earlier this year, the £4.7tn asset manager Vanguard cut the charges for its active and index tracker funds, arguing that “more work needs to be done to ensure investors understand the impact of costs on investment returns”.
Its senior investment planner, James Norton, even did that work. He modelled a £100,000 investment growing at an average of 4.5 per cent a year. If the investor’s all-in costs are 2 per cent — which many wealth managers charge, and some ask for more — the sum will grow to £210,000 after 30 years. If the costs are only 1 per cent, however, it becomes £280,000 in that time. And if the costs can be capped at 0.5 per cent, the final sum is £324,000.
“That is a difference of 50 per cent,” relative to the 2 per cent scenario, Norton points out. Put another way, the 0.5 per cent charge leaves the investor with almost 90 per cent of a £374,000 gross return (including the initial £100,000), while the 2 per cent charge means almost half of that return goes in fees. Not only does this demonstrate “the big impact of just a small fee increment on long-term portfolio returns”, says Norton, it highlights how, with a 2 per cent charge, the investor has kept little more than half the investment return and borne all the risk.
Nor are these scenarios entirely hypothetical. Vanguard’s median forecast for the 10-year annualised return from a 60/40 equity/bond portfolio in the next decade is 4.5 per cent. Tilting 20 per cent of the portfolio to other credit, inflation-linked bonds, emerging market equities or non-UK shares has no material impact on this outcome. At the same time, a wealth manager’s 1 per cent charge can easily be nearer 2 per cent in reality.
“Many investors don’t realise discretionary managers generally charge VAT,” says Norton. “That instantly increases the cost to 1.2 per cent. Add in other charges such as the cost of underlying funds and transaction costs, and it is easy to see how the 2 per cent level is breached.”
Vanguard therefore advises investors to “keep costs low — it is one of the few things you can control”. As it is trying to sell low-cost funds to this market, it would say that. But even traditional wealth managers now agree. Vermeer Partners is the latest advisory firm set up by Michael Kerr-Dineen, who ran the 122-year-old Laing & Cruickshank before it was bought by UBS in 2004, and founded Cheviot Asset Management, which merged with Quilter. His chief executive, Simon Melling, shares Vanguard’s view. “The erosion of value from high charges can be enormous. You can’t overstate the difference between 1-2 per cent and 2-3 per cent, which can be significant when compounded over decades.”
He sees no justification for the latter range, unless the wealth manager is providing expertise on higher risk/return holdings. “You would have to seek very specialist private equity investments, or unquoted securities that require intimate asset class knowledge,” he says. “Only then does an additional charge make sense, on the basis that there is extra value to be derived from those investments.
“But if you take a fund that invests in blue-chip, listed securities, in this instance it is hard to command a premium and it is even more difficult to understand why anyone would charge above the standard 1 per cent all-in fee.”
This is one reason low-cost index-tracker funds, offered by the likes of Vanguard and BlackRock, are increasingly part of wealth management portfolios. “We are seeing three main factors driving index adoption — simplicity, value for money and accessibility,” says Joe Parkin, head of banks and online distributors in the UK at BlackRock. “We are also seeing advisers turning to index funds to help keep overall portfolio costs lower, complement active managers that deliver returns and to diversify investments.”
BlackRock, in what it hopes will become a self-fulfilling prophesy, predicts the use of index funds in UK wealth portfolios “will grow by 50 per cent in the next two years”.
Other wealth managers, however, suggest there are services that can carry greater value and command higher prices. “Many clients place great importance on the responsibility of the preservation and careful stewardship of their wealth across generations, as opposed to only concentrating on the cost itself,” says James Fleming, chief executive of multifamily office Sandaire.
Even Melling admits “lower is not necessarily better”. But wealth managers who want their service to be seen as “premium” clearly need to work hard to ensure it is also “reassuringly reasonable”.
Matthew is reading . . .
Credit Suisse’s Global Wealth Report, which shows wealth inequality has “declined”: the “bottom” 90 per cent of people account for 18 per cent of global wealth today, compared with 11 per cent in 2000. Perhaps your philanthropic projects are working. Or your financial investments aren’t.
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