Fund managers are not good judges of whether their funds are providing value to investors — a finding that may come as no surprise following a review by the U.K.’s Financial Conduct Authority (FCA).
The regulator reviewed the industry’s compliance with new requirements to provide investors with annual “assessments of value” that are intended to offer greater insight on what investors are receiving in exchange for the fees and other charges they pay to industry firms. In cases where a fund’s value is found to be lacking, firms are supposed to detail their plans for improvement.
The requirement to provide these assessments was implemented in the wake of a study that found a lack of fee competition in the fund industry. The FCA’s review found that most firms had not delivered assessments that meet the regulator’s standards.
Too many fund managers “made assumptions that they could not justify to us, undermining the credibility of their assessments,” the FCA reported.
The regulator also found that many firms’ evaluations of their funds’ performance did not adequately consider what investors should be receiving, given the funds’ investment policies, strategies and fees.
In particular, the FCA found that actively managed funds were often assessed against a limited objective, such as simply “achieving long-term growth,” despite charging a premium for outperforming markets.
“Because markets have generally been rising in recent years, [managers] with these funds often assessed the funds’ performance…as providing value even where they have underperformed the markets in which they are invested,” the FCA said. “It is important to stress that funds which generate positive returns do not necessarily deliver good value.”
Amid the generally poor quality of the self evaluations, many of the firms reviewed “cut the fees for some of their funds following the completion of value assessments,” the FCA noted. However, the regulator said firms’ efforts at cutting investors’ costs often focused on the wrong areas.
“Firms spent a disproportionate amount of time looking for savings in administration service charges that cost investors relatively little compared with the time spent reviewing the costs of asset management and distribution that typically cost investors much more,” the regulator said.
Other firms used “poorly designed processes that led to incomplete assessments of value,” the report noted.
The review also found that fund governance sometimes fell short, too.
“Some of the independent directors on the governing bodies of [fund managers] did not provide the robust challenge we expect and appeared to lack sufficient understanding of relevant fund rules,” the FCA noted.
Overall, the regulator concluded that the fund industry has to do a better job of assessing the value of its products.
The FCA pledged to review these assessments again over the next 12 to 18 months, and indicated that it will take action against firms that aren’t meeting its standards.