Investment charges: Will they become clearer?

Stock market trader Investing can baffle the beginner at the best of times

People who want to invest in unit trusts and investment trusts will soon have better information to help them make decisions.

By the start of July, unit trusts will have to give investors a figure encapsulating the "ongoing charges" of being an investor.

This will replace a previous, similar calculation, known as the total expense ratio (TER).

Investment trusts are going to adopt the same method a bit earlier, so their costs can be easily compared with unit trusts.

The changes are welcomed by Justin Urquhart Stewart of Seven Investment Management.

"Most members of the public would never have heard of total expense ratios, and only here could you have a total expense ratio that did not include total expenses and was not a ratio," he says.

"I can pick up a tin of baked beans and know what it costs; in our world I can pick up a tin of financial baked beans, and I may not know the whole cost, possibly until the following year."

Key information

The requirement for funds to display the ongoing charges (OC) to investors comes from regulations laid down by the European Commission.

Start Quote

It sets out the key information about what the fund will invest in, its risk profile, how you go about buying and selling, and of course the charges and the performance record”

End Quote Mark Sherwin IMA

These rules require funds to show the charges, alongside lots of other prescribed information, on a new two-sided sheet of paper for investors, called the Key Investor Information Document (KIID).

This will replace the normal fact sheet that investors currently see, though the KIID will, at first, be obligatory only for most types of unit trusts.

In the coming years similar documents may become standard for all other types of personal financial investment.

Mark Sherwin, of the Investment Management Association (IMA), the trade body for unit trusts, says the new document is a step towards greater transparency.

"The new document is limited to two sides of paper, it must be provided to all investors before they buy a fund," he says.

"It sets out the key information about what the fund will invest in, its risk profile, how you go about buying and selling, and of course the charges and the performance record.

"It will become compulsory for all unit trusts that can be sold across European borders," he adds.

Meaningful or not?

The new figure for ongoing charges will in most cases be very similar to the current TER figure.

It will include the cost of investment management and administration, plus other costs of running the fund, such as fees for custodians (organisations that hold the assets safely for the investment mangers), regulators and auditors.

Unit trusts and investment trusts

  • Unit trusts and investment trusts are pooled funds and are two of the main routes by which individuals invest money in shares and bonds
  • Together they invest billions of pounds in investment markets around the world
  • Including the huge holdings of professional investment firms, unit trusts and other similar "open ended" funds hold more than £600bn worth of investments
  • Investment trusts, which are companies that buy shares in other companies, hold less
  • But their assets are still worth more than £94bn, on behalf of an estimated quarter of a million private investors and professional investors

The OC will not include stamp duty, which is payable when buying shares in investment trusts, nor any performance or success fees that some managers charge if their investment strategy is successful.

But these other costs will be displayed as well, alongside the OC, on the new KIID documents.

So, is the OC a meaningful figure for investors?

Ian Sayers, of the Association of Investment Companies (AIC), the trade body for investment trusts, believes it will be.

"I prefer ongoing charges because the focus is on the costs you are likely to bear in the future. TERs did not actually have every single expense, so potentially it was slightly misleading," he says.

"The OC figure is saying these are the charges you are likely to be paying, on an ongoing basis, to give you an idea of the costs you are going to incur for the future," he adds.

This information, shown up-front, should be an improvement for investors, because even today there are some funds which do not display a TER figure prominently.

In some cases you have to dig deep into their annual report to find it, rather than seeing it at first glance on the front of the investors' factsheet.

Why it matters

It is a moot point as to whether or not personal investors pay any attention to the TER and what it means, and will pay any attention to the new OC figure in the future.

Start Quote

They are important and eat into your investment return”

End Quote Ben Yearsley Hargreaves Lansdown

They certainly should.

But Ben Yearsley, of Hargreaves Lansdown, a fund "supermarket" which specialises in selling investments like unit trusts, says there is little evidence that costs weigh much on the minds of prospective investors.

"You do get people questioning the TER, especially if it is higher than the annual management charge [of the investment managers], but you don't get that many," he says.

"We get 2,000 phone calls a day from clients, but do we get calls on fund charges? Not very often.

"But they are important and eat into your investment return," he adds.

That is probably the key issue.

In years gone by, stock market investors might have expected annual investment returns of 10% or more, boosted by higher inflation and higher genuine economic growth.

But returns in general have recently been much lower and are expected to stay this way.

This means that previously acceptable levels of charges, say, 1% to 3% a year, will, unless they come down, swallow up a higher proportion of the investment returns than was once the case.

"This is one of the most important issues that our industry has got at the moment," says Mr Urquhart Stewart.

"If we are in a world with slower, less enthusiastic returns, the charges will act like rocks sticking out through water, and will rip out the hull of your investment ship.

"You need to know precisely what that cost is going to be, and our industry has been dreadful at this."

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