Whether you are buying a new car or a pair of shoes, it’s perfectly natural to shop around. You don’t want to buy a sub-par product just because it’s cheap, but equally you don’t want to spend an arm and a leg if you could have bought the same thing for less. It’s the same when it comes to investing. All investment products carry a price tag so it’s important to know what you are paying for and how that price compares to the wider market.
Fund charges (AKA fund fees) incorporate a number of different things. There are fees you pay to the fund manager for running the fund and there are also fees the fund managers pays for trading within the fund, which ultimately get passed onto the investor.
Fund charges jargon buster
AMC: stands for Annual Management Charge. It is the fee you pay to the fund provider for running the fund. This is calculated as a percentage of the total assets you have invested in the fund, usually on a daily basis.
OCF: Ongoing Charges Figure (previously known as the TER: Total Expense Ratio). This is thought of as a measure of the total annual cost of the fund to an investor. However, it’s important to be aware that there are some hidden costs that are still not included in this figure.
The OCF typically consists of the AMC plus other charges incurred for running the fund, such as custodian fees, trading fees, legal fees and other operational expenses incurred by the fund provider.
The OCF does not include everything, however. The most common examples of ‘hidden charges’ are performance fees and trading costs incurred by the investor such as broker commissions, stamp duty on share purchases, and bid-offer spreads (the difference between the buying and selling prices of an investment). While for some UK funds these extra costs are minimal (around an extra 5bps), in other cases these ‘hidden fees’ could more than double the total annual cost of your investment.
What is a fair fee?
The good news is that fund charges in the UK have been on a downward trajectory since the introduction of the Retail Distribution Review (RDR) in 2013. The main objective of this regulation was to stop paying commissions to advisers. For consumers, this has meant more transparency and ultimately, lower fees. In fact, five years after the RDR was introduced, retail investors were paying on average 20% less for active fund charges and 28% less for passive fund charges according to research by Morningstar.
Active
Fund charges for active funds are often higher than for passive funds as you’re paying for the manager’s active expertise. This expertise comes in many forms, it might be just their stock picking skills or it could also include providing access to a particular part of the market that you can’t replicate with passive funds. This expertise doesn’t mean that active funds have to be eye-wateringly expensive though - sometimes active funds can even be cheaper than the passive alternatives!
You can find active funds with OCFs anywhere between 0.30% and 1.25% (Source: Money Advice Service and Active Funds | Vanguard UK Professional).
Fixed income funds are on average the cheapest, while multi-asset funds and specialist strategies tend to be at the more expensive end. OCFs for investment trusts can range from 0.36% to 1.8%, depending on the strategy and the manager (Source: Money Advice Service and Citywire) We take a closer look at investment trusts in a separate post.
Passive
In general, passive fund charges tend to be lower than the charges on active funds and you can find out why in this post. The average OCF for passive funds is usually between 0.25% to 0.85%, but some passive funds have even lower charges.
The larger and most liquid passive strategies tend to be the cheapest. Nowadays, you can pick up an ETF tracking the FTSE 100 index, for example, for less than 0.10% per annum - all in. If all you want is exposure to broad equity markets, that’s a no brainer.
However, in recent years we’ve seen the passive investment market expand significantly, bringing specialist strategies (e.g. sustainable or smart-beta ETFs to name just two) or more complex structures. These more specialised or complex strategies often carry higher fund charges - sometimes even higher than actively managed funds.
Traditionally, active funds have been seen as an expensive way to invest, while passives were considered cheap. But the lines have become more blurred as fund charges compress on the active side and passive strategies proliferate and/or become more complex. The key thing to remember is that whilst fund charges are important and you should know what you are paying, but the fee is just one component to be considered. At the end of the day you need to consider your net return. Sometimes, it’s worth paying a higher fund charge if you believe the fund will deliver a superior return. Different funds will play different roles within your portfolio; as long as you are clear on what your own goals are you’re well on your way to finding the right fund (with the right fee) for you.
Did you know that you can sort the TILLIT Universe by OCF as well as filter by fund categories and characteristics? Why not take a look!
Original date of publication: 2nd September 2020
Date of revisions: 26th January 2023
The information in this post is not financial advice, it is provided solely to help you make your own investment decisions. If you are unsure about whether an investment is appropriate for you, please seek professional financial advice. You can find more information here.
When you invest you should remember that the value of investments, and the income from them, can go down as well as up and that past performance is no guarantee of future return.