Transaction costs: how trading increases your fund bill

Fund charges are finally being made clearer to investors on the back of new rules that came into effect at the start of 2018. 

Over the years there have been various campaigns that have urged fund managers to spell out their costs in full, including Money Observer’s own calls to clarify the true cost of investing

One of the main concerns that has been repeatedly raised is that the ongoing charges figure (OCF) is not a full reflection of the costs incurred by investors, as trading fees – the costs involved in buying and selling individual fund holdings – are not included. 

Moreover, the transaction charge is hard to find, with the figure buried in annual fund accounts, rather than clearly stated on the literature that investors are more familiar with and more likely to read, such as the fund factsheet. 

But following new European Union rules that have been introduced, known as Mifid II, fund managers are expected to become more open in communicating their transaction charges. 

Platform consultancy the lang cat looked at 20 of the most popular funds among private investors and crunched the numbers to find out the true costs of each fund. For seven of the 20 funds, as the table below shows, the transaction charge figure stated on the fund literature is 0 per cent. According to Mike Barrett, consulting director at the lang cat, it is unclear whether these funds genuinely have no transaction costs or whether they are being met from company profits rather than borne by the fund. 

A third explanation is that some firms are still not forthcoming in spelling out the transaction costs to third party data providers such as FE Analytics, which is where the lang cat sourced the data. 

But, as the table shows, in the cases where the transaction charge has been disclosed, trading costs can add significantly to the overall fund charge. In case of Henderson UK Absolute Return, for example, the transaction cost of 0.79 per cent is almost three quarters of the stated OCF of 1.06 per cent. Overall, across the 13 funds where transaction charge information was obtained by the lang cat, trading costs add around a third to the OCF charge. 

‘No-one’s charges have actually gone up. Investors have always been paying these fees, it’s just that the fund groups now have to tell you what they are charging,’ says Barrett. 

‘Most advisers have always known there was more to fund costs than the OCF; however, in the absence of formal disclosure this was just speculation, and they had to work with what the fund groups told them.

‘From an investor’s point of view, this is likely to be a real turn-off.  This feeling of grubbiness intensifies when you remember just how hard the industry has kicked against being made to step up to the plate and disclose these charges. This is not anything radical – all they are being asked to do is to tell people what it costs to invest with them. 

‘It’s taken EU regulation to get this out in the open, rather than transparency being the default position. Now we’ve come this far, we also need those firms who are disclosing a zero cost to explain the basis of their assumptions.’

In the case of tracker funds, some investors may be surprised to find that when adding trading costs together with the OCF, the overall cost of the fund can be as much as 50 per cent higher than the stated OCF. 

Some firms, such as Vanguard, have previously been up-front in regard to disclosing such costs, with a spokesperson pointing out the firm has ‘long supported efforts to improve simple and meaningful disclosure of investment costs.’ 

-Consistent active fund winners are becoming harder to find

‘We have always aimed to disclose the most complete picture of all the running costs of a fund, including additional fees and expenses such as transaction costs. It’s important to note that Vanguard is not introducing any new costs and charges, and we do not profit from transaction costs: they are necessary costs incurred when buying or selling underlying investments within the fund to achieve the fund’s investment objective,’ says the spokesperson.

‘Vanguard trades globally at best execution levels to keep transaction costs such as brokerage commissions, dealing spreads, market impact costs, opportunity costs and transfer taxes as low as possible on behalf of investors.’

Justin Modray, director at Candid Financial Advice, notes that high trading costs are no bad thing – if they are backed up by performance. ‘It is not a new charge, investors have always paid it, but it has been hidden away in places that most investors will not find. 

‘But investors should not be put off a fund that trades frequently – it is not a bad thing if the fund outperforms. Similarly, if a fund rarely trades it also boils down to performance; if the fund is underperforming then investors should rightly question whether the fund manager is doing too little,’ says Modray.    

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