Performance fees becoming standard in high-conviction funds: S&P
Additional performance fees on top of already high fees are unjustified at a time when fund manager performance could be classified as average, according to Standard & Poor’s (S&P) Sector Report: Australian Equities — Large Cap/Core and Long/Short.
A key theme was that performance fees for high-conviction managers were becoming mainstream.
In S&P’s review of Australian large cap/core and long/short managers, which applied star ratings to 244 funds, only five out of 46 managers received the highest five-star rating.
These were Barclays, BT Financial Group, MIR (Equity Trustees), K2 and Perpetual, representing a range of investment styles ranging from core/style neutral through to value, quantitative and long/short.
Overall, the report found only ‘”average” median manager performance, with little evidence of “expensive managers justifying their price tags”.
Commenting on the findings, S&P fund analyst Marcus Hanel said: “Higher fees, including performance fees, are acceptable if the investor is being compensated for the additional cost.
“Fund managers have many alternatives when designing performance-based fee structures, and S&P feels that some fail to align investors’ interests with their own.”
The report pointed out S&P’s reaction to a number of aspects of fee structures.
“There are certain things we like in performance fee structures,” Hanel said.
Among these was BT’s move to reduce management expense ratios to offset performance fees, annual rather than quarterly performance fees and the inclusion of a hurdle rate in managers’ costs.
One thing Hanel said it did not want to see was managers with resets of high-water marks, which in most cases was not appropriate.
The top performing fund managers over the 12 months to June 30, 2006, in most cases demonstrated exposure to resources, Westfield Holdings and Telstra Corporation, while exposure to mid-cap stocks drove investment performance over the five-year average.
The report also suggested that offshore investments would play a more prominent role in domestic equity products.
“With ever-increasing globalisation, the idea of what constitutes ‘Australian equities’ is becoming greyer . . . Many domestic-listed stocks have a large proportion of their revenue derived offshore, in some cases entirely derived offshore.”
“The main lure is the widened opportunity set and the ability to invest in stocks . . . that are trading at more attractive valuations or have better growth prospects,” it said.
One of the biggest managers to do this so far is Perpetual, with its Australian share fund now able to list up to 20 per cent in offshore listed assets, closely followed by Perennial’s new High Yield Shares Trust.
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