The cost of wealth management is an increasingly important component of the net returns that are achieved on an investment portfolio. This is particularly true in de low interest environment that we are currently witnessing. We believe due attention should be given to the cost charged by your asset manager or private bank.
Well-known costs of wealth management are: annual management fee, investment advice fee, and custody fee, administration fee, and transaction commission, coupon and dividend fee.
Lesser-known and hence less transparent are the costs involved in investing in mutual funds. The mutual fund’s annual management fee is the most commonly known and covers the fund’s fixed an ongoing expenses, such as the manager’s salary, printing costs for prospectuses etc.
A wealth manager charges a periodical (quarterly or annual) management fee. To this fee, which can vary greatly from manager to manager, are added the cost charged by the custodian bank; transaction costs, custody fees, coupon and dividend charges and of course VAT.
If the wealth manager decides to invest in mutual funds further costs increase the bill. The annual management fee is quite transparent and communicated openly. However, mutual funds also charge for brokerage commissions, trading expenses incurred and retrocession charges. To discover these charges it is necessary to dig deep into documents that are not required to be communicated proactively to the client.
As you can see, the possible fees can add up quickly. A 2012 study by the AFM, the Dutch financial markets regulator, showed that average costs charged by private banks or wealth managers were about 2% of invested capital. A portfolio consisting only of direct lines came to an average cost ratio of 1,7%, while a portfolio that also invested in mutual funds rose to 2,7%. A more recent report by the UK’s watchdog, the Financial Conduct Authority was ever more damning. Your break-even requirements in terms of performance suddenly are a lot higher than anticipated.
Earlier we talked about retrocession or distribution charges. This is a compensation paid by the mutual fund to the banks or wealth managers that include a fund in their client portfolios. Customarily this commission is half of the mutual fund’s management fee. A side effect of this remuneration is that the private bank or wealth manager can be incentivized to choose for the highest paying fund and not necessarily the best.
When it comes to fees, we all know that advice and asset management has to be paid for, but you need to know what you are getting in return. And it pays to ask about total costs. It also pays to investigate lower-cost alternatives. You might consider building a portfolio where some mutual funds are replaced by ETF’s, or include more individual lines. Your wealth manager could also select the compartment of the fund that carries lower costs. But if you do not insist on this he will rarely volunteer. It is also becoming customary for some private banks to wealth managers to pay out the retrocession fees they receive to their clients.
Again, ask the right questions or have your trusted advisor or wealth engineer ask them and you can reduce your total cost of wealth management significantly.