Returns of pre-packaged fund – also known as model portfolios – hit by huge fees

June 2, 2014 7:42 pm

Packaged fund returns hit by huge fees

By Emma Dunkley

The investment returns on “pre-packaged” portfolios sold by wealth managers could vary by as much as £46,000 over a decade on a £500,000 pension due to the wide range of fees charged, a report reveals.

Research by investment platform Skandia based on data from The Lang Cat, an independent consultancy, shows the total cost of investing in these pre-packaged funds – also known as model portfolios – can have a substantial impact, knocking thousands of pounds off returns.

Model portfolios invest in a number of funds to target a level of returns and a degree of risk. Wealth managers may offer a number of such portfolios, often assigning them a risk rating to suit different types of investor.

Financial advisers, who are finding more of their time consumed by dealing with new regulations, are increasingly turning to model portfolios as “off-the-shelf” products that provide an efficient way to invest on behalf of their clients.

However many model portfolios have complex layers of charges that can materially erode investment returns over time.

The research looked at portfolios with a similar risk profile and asset allocation provided by five well-known wealth managers and offered through various platforms.

The total cost takes into account the platform fee, the wealth manager’s charge for running the portfolio and the funds’ fees, as well as other expenses, such as the cost of rebalancing the portfolios and trading costs.

The research found that a pension of £500,000 over 10 years would grow to £721,000 if invested in the Brooks MacDonald Active fund on the Novia platform.

At the other end of the scale, this investment would be worth £767,000 if invested in the Skandia WealthSelect 5 fund on the Skandia platform – a difference in return of £46,000.

Other lower-cost portfolios include London and Capital 5 on the Aviva platform, with a total cost of 1.19 per cent. A £500,000 pension investment would be worth £757,000 after 10 years.

Similarly, the difference in returns for a £500,000 investment into an individual savings account over 10 years would be £42,000, due to charges ranging from 1.70 per cent a year to 1.10 per cent.

Mark Polsen, principal at The Lang Cat, notes that Skandia’s range does not include a wealth manager’s charge for managing the portfolio.

“Most providers of model portfolios charge 0.25-0.50 per cent a year plus VAT for being invested in these products,” he said.

Many model portfolios also lack transparency, making it tough for investors to see which funds their money is invested in, the individual fund costs, and the amount apportioned to each fund.

Although such detail is arguably part of the intellectual capital offered by the wealth manager, which helps to justify the fee, many investors welcome the move towards a more transparent portfolio.

But digging under the surface reveals many of these portfolios tend to invest in the same universe of funds.

Of the five discretionary fund managers analysed in the research, all used the Threadneedle UK Equity fund, while four invested in Artemis Income.

Other funds which frequently cropped up in portfolios include Newton Asian Income, Standard Life Global Absolute Return Strategies, Axa Framlington UK Select Opportunities, Fidelity Moneybuilder Income and First State Asian Pacific Leaders.

Gary Potter, a fund selector at F&C Asset Management, said many model portfolios hold the same large funds, seemingly based on a “rear-view mirror” approach of investing in those that have already performed well over the past few years.

Yet he points out managers of large funds will find it harder to deliver top returns than those with a smaller amount of assets under management, as it is “tougher to steer a big ship”.

“It’s better to be investing in a fund manager when he is building his track record than one who is living off it,” said Mr Potter.

The Financial Conduct Authority, the UK’s watchdog, has also warned that individual investors are at risk of being shoehorned into model portfolios not suited to their specific needs.