The financial services regulator should be wary of ‘naming and shaming’ those funds it believes have let investors down as the industry should have the proper safeguards in place to protect clients, according to star manager Richard Buxton (pictured). 
In November 2016, the Financial Conduct Authority (FCA) published the interim findings of its Asset Management Market Study and hit the headlines after suggesting many actively managed funds fail to outperform their benchmark after costs and concluding there was weak price competition in a number of areas of the industry.
The interim report was seen as a heavy blow to the active management industry and some argued that the regulator was attempting to push investors towards passive funds. Interested parties had until 20 February to submit their responses to the study, with a final report and proposed amendments to the FCA’s rules expected to be published in the second quarter of 2017.
The paper suggest that one course of action could be the regulator “shining a light” on funds with long-term underperformance but in its response Old Mutual Global Investors (OMGI) calls on the FCA to avoid putting an excessive focus on past performance and attempting to highlight funds that have underperformed.
Tracking error against OCF for clean equity share classes over 2013-15
Source: FCA Interim Asset Management Market Study
Buxton, OMGI chief executive and manager of the £2.2bn Old Mutual UK Alpha fund, said: “Driving good customer outcomes and providing genuine market-beating returns, with a focus on value for money, is an integral part of OMGI's vision and practice.
“We are supportive of the FCA highlighting areas of weakness within the industry, but want to stress that the reputation of all active fund managers should not be damaged by the small number of firms running so-called ‘closet trackers’.
“A clear trend over the last five years has emerged showing partially active funds being squeezed between passives and high active alpha funds. This has occurred due to the greater availability and transparency of data enabling comparison of measures such as tracking error, active share and charges. Intervention by the FCA to reinforce these pressures is not required.”
OMGI’s submission to the FCA says that “asset managers should have sufficiently robust governance processes to ensure effective oversight of the investment performance of the funds they manage and that management remains in line with the expectations of the investors”, which the company suggests would be enough to avoid the need for 'shining a light' on poorly performing funds. 
OMGI also says that singling out 'underperforming funds’ could be “irrelevant if the asset manager has already taken steps to address poor performance”. Furthermore, it argues that funds which have not been ‘named and shamed’ could be seen as having investment recommendations by the regulator on them, when this would not be the case.
However, the company is also called for the introduction of enhanced fund governance, the adoption of a single fund charge inclusive of fees associated with the management and ancillary services of funds but excluding transaction costs and a push for greater clarity with respect to investment objectives.
Orbis Investments UK head Dan Brocklebank (pictured) is another firm calling for better enforcement of the existing regulatory regime for asset managers, rather than the addition of new rules. Orbis says the UK already has an extensive framework of principles-based, outcome-based and rule-driven regulation, which should be more rigorously enforced.
“The FCA’s report points to a disappointing gap between the robust standards laid out in the current regulatory framework and actual industry practice. We therefore believe there is ample scope for the FCA to improve consumer outcomes by pursuing more rigorous and effective enforcement of existing rules, before adding additional layers of regulation,” Brocklebank said.
“A simpler proposal would be for the FCA to incentivise appropriate behaviours through deterrence. We suspect that the knowledge that existing standards are going to be more actively monitored and vigorously policed would be a powerful impetus for behavioural change in an industry where reputation plays an important part in brand building and retaining consumer trust.”
Orbis does, however, believe that reform is needed when it comes to the charging structures being used by funds. It says that the FCA and regulator need to work closer together to identify “fresh thinking” on how to better align the interests of investment managers and their clients, with fee structures being a good starting point.
One suggestion it makes is the introduction of symmetric performance fees, where investors do not pay management charges for poor performance but are rewarded for outperformance.
“We would fully support any initiative to encourage fund managers to come up with well-structured symmetric performance fees as one of the consumer-friendly solutions to the issues raised within the FCA’s report,” Brocklebank said.
“We have always believed in pay for performance – to us, it seems common sense. However, we recognise that no performance fee is perfect but a fee structure that is based on the principle of symmetry where a manager does not receive a fee unless it outperforms is the fairest and most transparent way to operate.”
Index-tracking giant Vanguard was more pointed in its response, calling on the FCA to consider introducing a ‘health warning’ on fees as part of simplified approach to investor communications. The warning would help investors understand the impact of fees on their returns.
Research by Vanguard looked at the 10-year performance of a range of actively managed and index equity and fixed income mutual funds available to UK investors and found that the lowest-cost quartiles (represented by circles in the below chart) outperformed the higher-cost quartile (the triangles) in all categories.
Performance of low and high cost funds over 10yrs
Source: Vanguard
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.
“Performance is a potential. Costs are a certainty, hence why investors should focus as much, if not more, on costs. 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.”
What are your thoughts on how the FCA should proceed? Does the asset management industry have the ability to police itself effectively or do we need a tougher regulator when it comes to performance and fees?