More Funds Adopt Per­for­mance-Based Fees

The Washington Post Sunday - - Business - By Tim Par­adis

Mu­tual fund in­vestors look­ing for money-back guar­an­tees on Wall Street have of­ten been told to keep walk­ing.

In­vestors could grum­ble but ul­ti­mately get lit­tle from fund man­agers. Now, a small num­ber of mu­tual fund fam­i­lies are us­ing fees to com­pen­sate share­hold­ers for lack­lus­ter per­for­mance and re­ward fund man­agers for strong re­turns.

Fees for eight of Dunham & As­so­ciates’ 11 funds are tied to per­for­mance. So, for ex­am­ple, fees at a fixed-in­come fund with an ex­pense ra­tio of 0.3 per­cent might rise to 0.60 per­cent if the fund sub­stan­tially out­per­formed its bench­mark. On the other hand, if it un­der­per­formed sig­nif­i­cantly, the fund would waive the fees.

“When the in­vestors are ex­pe­ri­enc­ing eu­pho­ria, they don’t mind and in fact wel­come the op­por­tu­nity to re­ward their ad­vis­ers. When the in­vestors are feel­ing pain and abused . . . they’re an­noyed about pay­ing fees for sub-par re­sults,” said Jef­frey Dunham, prin­ci­pal at Dunham, whose funds’ com­bined as­sets are worth about $400 mil- lion. “It cre­ates a part­ner­ship where one does not ex­ist to­day.”

Dunham con­ceded that while in­vestors might not save money over­all with per­for­mance-based fees, they will be re­lieved to pay lower fees should re­turns fal­ter. “It isn’t about the ab­so­lute price,” he said. “It’s about price rel­a­tive to value.”

Not all funds that aim to as­suage cus­tomer con­cerns over lack­lus­ter per­for­mance reg­u­larly re­duce fees. Charles Sch­wab & Co. has 16 man­aged port­fo­lios, each of which con­tains sev­eral funds. Each port­fo­lio has man­age­ment fees, as do the un­der­ly­ing funds. While the port­fo­lio man­age­ment fees can be re­funded, the fees tied to the un­der­ly­ing funds aren’t re­fund­able, Sch­wab said.

“We think it’s a fair propo­si­tion for the clients and we are tar­get­ing clients who may not be used to in­vest­ing in man­aged port­fo­lios,” said Gre­gory Maged, a vice pres­i­dent at Sch­wab In­vestors Ser­vices.

Maged said the com­pany isn’t wor­ried about share­hold­ers abus­ing the of­fer be­cause Sch­wab would work with them to ad­dress their con­cerns, per­haps by plac­ing them in an­other fund. Only one cus­tomer has re­quested a re­fund so far, Maged said.

While Fi­delity In­vest­ments has since the 1970s ad­justed fees on some do­mes­tic and in­ter­na­tional eq­ui­ties funds based on per­for­mance, the com­pany’s board in Fe­bru­ary au­tho­rized such fee struc­tures for 19 more funds. If ap­proved by the share­hold­ers of those funds, it would give Fi­delity 68 funds with per­for­mance-based fees.

“We have found it make sense for share­hold­ers be­cause it more closely aligns our eco­nomic in­ter­ests with theirs,” said Vin­cent Lo­por­chio, a Fi­delity spokesman.

Fi­delity eval­u­ates per­for­mance against a bench­mark over a rolling 36-month pe­riod, to fo­cus on longterm per­for­mance. The max­i­mum adjustment to the fees is plus or mi­nus 0.20 per­cent.

Laura Pavlenko Lut­ton, mu­tual fund an­a­lyst at in­vest­ment re­search firm Morn­ingstar, said she hopes that more funds will ad­just fees to mir­ror per­for­mance.

“We’re big fans of per­for­mance fees be­cause the share­hold­ers get a break when the fund isn’t de­liv­er­ing on per­for­mance,” she said. “We view per­for­mance fees as a best prac­tice in the in­dus­try.”

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