In response to the Financial Conduct Authority (FCA) Asset Management Market interim report, low cost ETF provider Vanguard has called for a “health warning” on fees to be included as part of a “radically simplified” approach to investor communications. Under the proposal, Vanguard believes warnings on fees should receive equal prominence to those on past performance.
Sean Hagerty, Head of Vanguard’s European business.
The “health warning” is aimed at helping investors understand the impact of fees on their returns, in support of the FCA’s efforts to improve competition in the asset management industry.
Sean Hagerty, Head of Vanguard’s European business, commented: “As a provider of both active and passive investment funds, Vanguard has built its reputation on the principle that costs matter. Every pound paid in fees is a pound less of return for clients. Investors cannot control the markets, but they can control what they pay to invest, and that makes an enormous difference over time to their returns. A “health warning” on the impact of costs would be a clear sign of intent from the industry that it’s putting the needs of the investor first.”
According to Vanguard’s own analysis, fund fees are the best indicator of future returns, and low-cost funds have tended to outperform high-cost funds over time.
Vanguard examined the performance of a range of actively managed and index equity and fixed income mutual funds available to UK investors and found that, when funds are split into lower and higher cost-quartiles, the low-cost funds outperformed those with higher costs across all categories, over the past ten years (see figure below).
Source: Vanguard.
Vanguard also found that high costs are one of the main reasons why the majority of actively managed funds have underperformed their chosen benchmarks over the past 10 and 15 years. For example, in the case of global equities, 64% of active equity managers underperformed their benchmarks over the 15-year period to 2016, while more than 73% of global bond managers underperformed their benchmarks over the same period. When the research took survivorship bias into account, the percentage increased to 83% for global equities, and 80% for global bonds (see figure below).
Source: Vanguard.
The findings are part of a growing body of research that is supporting growth in the ETF industry as investors turn to lower cost passive vehicles to boost long term performance.
Despite this trend, evidence persists that the majority of investors in the UK still do not understand fund charges. Independent research commissioned by Vanguard on UK investors’ understanding of fees strongly suggests that better communication on fees is needed and wanted. The research revealed that 51% of engaged investors and 81% of unengaged investors did not know what investment fees they had incurred in pounds and pence over the last twelve months.
Vanguard believes this is, in part, due to the poor quality and clarity of information they receive from providers. Consequently, Vanguard is advocating for a radically simpler template to be developed to ultimately replace existing disclosure documents.
Hagerty added: “Investors need to be put in a better position to understand how their investments could perform, and how indeed they are performing. The fund industry, and individual fund providers, should be delivering simpler information to help investors make better informed decisions.
“The FCA’s interim report provides a significant opportunity for both policy makers and the industry to raise awareness about the effects of costs on investment success. Vanguard looks forward to engaging with the FCA on our full response to the report, and our proposals on the opportunities to improve investor outcomes.”