Fees updates show fund managers on to a winner

Low interest rates may be lining some fund managers’ pockets.

The Financial Markets Authority has released the findings of its review of quarterly fund updates provided by managed investment scheme (MIS) managers, including KiwiSaver providers.

The managers have to provide estimates of the variable fees they charge in their product disclosure statements (PDS) given to prospective investors.

In their quarterly updates they report on the actual fees charged.

The authority said 17 per cent of the schemes it looked at had a fund update that included fees materially higher (+ 0.15 per cent) than in the PDS, or 9 per cent after excluding funds where the PDS was subsequently updated.

It found in some cases that was due to performance fees being higher than expected. Performance fees are variable charges that managers impose on a portfolio when it performs beyond a set benchmark, or hurdle.

Chris Douglas, of research house Morningstar, said it was important that performance fees were fairly structured. In New Zealand, most favoured the fund manager.

Many of the structures were set up when the official cash rate was high, Douglas said. A hurdle of the cash rate plus 4 or 5 per cent meant a hurdle of as much as 13 per cent return before fees were charged.

‘‘If you’re not a sophisticated investor that sounds quite good. You don’t pay performance fees if the returns are negative or if they are below the hurdle. And you share the upside with the fund manager.’’

But it was problematic in situations such as recent years where the market had delivered returns of 20 per cent or more.

‘‘Due to no skill of the fund manager, just the performance of the market, they get very healthy returns and investors are paying quite a high fee for that.

‘‘Now the cash rate is at historic lows, a lot of funds benchmark against the cash rate or term deposits and that’s a very low hurdle when in 2017 New Zealand equities returned 20 per cent or more.

‘‘The reality of the market we had last year means fees are going to be much higher for the year to March 31.’’

The FMA says it will work with managers to address the issues uncovered by the review.

Douglas questioned what it could do. KiwiSaver managers had been given a guidance note on performance fees and there had been no change in behaviour as a result.