(Editor’s introduction: Rob Garnsworthy readily admits he ‘fed from the trough’ during his business career 'in his previous life’. Rob was Chief Executive Officer of Norwich Union from 2000 to 2003 after five years as Managing Director of Colonial Group’s UK operation and then heading CBA’s International Financial Services. In 2000, Norwich managed funds valued at $11 billion and administered an additional $6 billion through the Navigator Master Trust.
Rob is now long and happily retired, and he says, “Those writing about retirees are never actually retired - the thoughts and fears are different and they change over time.”
So in what ways has he changed over time since experiencing retirement from the other side?).
The articles in Firstlinks on Listed Investment Companies (LICs) and ASIC's disquiet over selling fees flirts at the edges of a much more fundamental challenge for advice and wealth businesses. The fees model right across the industry, from advisers to platforms to fund managers to retail and industry funds, is unfair and unsustainable.
Let's start with a very simple fact. The ASX200 Price Index climbed from 6,802 on 31 December 2019 to 7,042 on 10 January 2020, a rise of 3.5% in 10 days.
Not a single soul across the industry has done anything to achieve that result, their costs have not gone up by a single cent and yet most of their fee income has gone up by circa 3.5% (acknowledging that some business models use a flat annual fee).
Is that fair? No. Is it reasonable? No. Is it under attack? Yes.
The reality of percentage fees
Most investors do not even see the rising dollar amount of fees as the payment is hidden, and no doubt they welcome the market move of 3.5%. If they do think about it, then it’s "... little bit off the top in fees, so what?"
Here is the reality. The rush into financial services was about jumping aboard this gravy train - revenue went up (and down) with markets, whereas costs per client remained largely fixed (with the exception of ever-increasing spends on IT and compliance). There is a lucrative disconnect between costs and revenue tied to markets that trend higher over time, even with some hiccups in between like the GFC.
Revenue and charges are not ‘matched’. Businesses receive, say, a 7% increase in fees each year due to market movements, with say, an increase of 2% in your costs. It’s a cracker of a business model!
SMSFs were first to spot the flaw. They figured out that their accounting and audit fees really did not change whether their fund was $1 million or $10 million. It’s the reason nearly 30% of superannuation has moved into SMSFs, and larger the fund, the bigger the saving, and not only on administration.
The new kids – well, relatively - on the block, Exchange Traded Funds (ETFs) still charge percentage- based fees but as they bulk up, their fees generally go lower. There is an ever-widening gap in fees between ETFs from the big guys and LICs/managed funds, and it shows in the flows as ETF volumes have surged past LICs in the last year.
It’s asset allocation that matters
The obvious and compelling question is: "Why would I invest in a LIC or managed fund when the costs are higher and performance is often inferior?"
Not only is the industry ‘logic’ under attack, the competition just gets hotter and hotter. Throw in an ever-increasing overlay of regulations and compliance, and the industry is getting tougher! A fee model that is unfair, performance differentials opaque and the cost of doing business rising. Not surprising that some are heading for the exits.
However, it gets worse. In this new world, asset allocation rises above the noise. It is. and arguably always has been, the most critical decision for any investor. Never before has it been so simple to get advice on asset allocation. Just look it up, copy whoever you like – the Future Fund, an industry fund, a diversified retail fund, whoever. Copy their allocation, buy ETFs to match and go back to sleep! That is now a genuine option.
And okay, if you have confidence in an active manager, throw them into the mix if you are prepared to pay active fees.
It really surprises me how few people actually understand the problem. If the retail investors of the world realised that the ‘only’ skills you need are asset allocation, supported by some good tax advice, then stock picking becomes largely irrelevant. Portfolios can be dominated by passive exposure with some active piece. It’s a lot easier for ordinary folk to get their heads around.
I am about to turn 71, with about 20% of my portfolio allocated to passive exposure – the balance is all direct. By the time I get to 75, it will probably be 40% passive and by 80, reckon that might be 80%!
My view of the future
Looking forward, the old world will defend the traditional business model, in some cases to the death. The new world will build a model, including critically, financial and tax advice, based on dollar fees for service, rather than percentages, and portfolios will be dominated by low cost index allocations.
At the edges will be genuine super star managers who consistently outperform and can charge accordingly but one suspects there will be fewer of them!
Rob Garnsworthy is retired after a senior wealth management career, and is currently a Trustee Director for the Colonial Foundation, a charity which has donated over $115 million in a range of philanthropic grants.