Fees Are In Free Fall — and They’re Not Stopping

Mutual fund fees have been falling for seven years, and the trend isn’t slowing.

By 2025, combined active and passive expense ratios will decline by 22 percent, according to PwC’s 2019 U.S. Mutual Fund Outlook released Tuesday. 

Managers have long measured success by the amount of assets under management. But declining fees have altered that metric.

“The shift to low-fee passive investments combined with falling TERs [total expense ratios] has led to a shift in the relationship between revenues and AUM,” PwC explained. 

According to the report, total U.S. mutual fund assets are expected to increase a healthy 46 percent by 2025, but industry revenues will rise a modest 10 percent to 15 percent. 

Larger managers are better able to absorb the coming fee cuts, given the scale advantages of their technology and back-office platforms. Smaller active managers, according to the report, are looking to compete by trying other measures such as fees based on the results investors receive, share classes that are priced for different client types, and new active versions of exchange-traded funds. 

“As pricing pressure intensifies, firms should look for creative ways to price their products to satisfy investor demand for value,” wrote the report’s authors. “Aligning fees with performance may help, but managers must work to understand what else constitutes 'value' in the minds of investors.”

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PwC’s report is based on its own data as well as historical information from the Investment Company Institute, Simfund, and Lipper. 

The consulting firm also argues that mutual fund firms will shave products from their lineups, particularly as distribution platforms shrink. Similar to institutional asset managers, brokerage firms and independent advisors have been cutting the number of funds they offer. As a result, asset managers are supporting thousands of funds that get little interest from investors. 

PwC expects that firms will close or merge half of their existing funds by 2025. Some of these offerings will be replaced by active ETFs, smart beta and other quantitative funds, as well as outcome-oriented products like target-date funds. Still, PwC expects the number of funds to drop 14 percent on a net basis.

With lower fees and fewer products, the industry won’t need as many asset managers to do the job. Although the mutual fund industry—and asset management in general—has become a more concentrated business, PwC expects that trend to continue through 2025. 

The five largest U.S. mutual fund managers will grow 4.8 percent annually through 2025. The rest will struggle to gain market share, said PwC.

Smaller managers should worry, especially if the last few years are any indication of what’s in store. From 2015 to 2018, the five biggest mutual fund managers brought in a total of $1.6 trillion in net new assets. The rest of the industry lost $552 billion in net assets. 

That means the five largest mutual fund companies will control 64 percent of assets by 2025, up from 55 percent as of the end of 2018. 

Mergers and acquisitions will be a popular solution for fund firms without clear successors, that are pressured by being public, or have high-profile risks such as a handful of key clients or a presence in only one distribution channel. Other firms may want to seek a deal so they can focus only on investing, without being burdened by regulatory, distribution, or operational concerns and costs. 

The industry will ultimately be much smaller.

“The mutual fund industry is expected to undergo significant consolidation with up to 20 percent of the firms currently in existence either being acquired or eliminated between now and 2025,” wrote the report’s authors.