Cost-conscious asset owners want discounts on investment management fees. To get them, it helps to have a lot of bargaining power.
Asset managers are more likely to capitulate to their largest clients — especially in asset classes where investors could easily go passive, according to new research from Cerulli Associates.
“Managers increasingly rely on fee negotiation in order to attract new assets and retain current assets,” Cerulli analyst Chris Swansey said in a statement. Cerulli reported that in certain asset classes, such as traditional investment-grade fixed income, discounts are “not only frequent, but expected.”
“Redirection of risk budgets and manager consolidation magnify the bargaining power of investors in efficient markets, thus making it easier for them to negotiate better fees,” the Boston-based research firm said in its latest report on the U.S. institutional market. “Fee discussions occur at various points during the due diligence process, and a $5 billion public defined benefit plan tells Cerulli that these conversations are occurring earlier in the process.”
According to Cerulli, a large client targeting a more efficient market — such as large-cap U.S. stocks — is likely to have “much more power” than a smaller allocator negotiating fees on a small-cap mandate, for example.
Among investors best-positioned to secure discounts are insurance general accounts. “Insurers historically have been ‘ahead of the curve’ in terms of negotiating fees,” the report said. “While insurers can demand significant resources from an asset manager, the scale of their assets and the typical length of the relationship is highly desirable. As such, managers have been willing to discount heavily for insurance institutional assets.”
Although smaller allocators hold less sway in fee discussions, they can use consultants and outsourced CIOs to negotiate on their behalf. “Some managers allow intermediaries to pool funds to get the lower rack rate,” the report noted. “Similar to large investors, consultants work with everyone, so they know the lay of the land in terms of fees.”
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Asset managers surveyed by Cerulli reported varying approaches to fee negotiation, depending on asset class and level of assets under management. At small asset managers, fee negotiations are often handled by the sales professional, who has the ability to offer a standard pre-approved discount. If investors want a steeper discount, the request is “escalated to one or two decision-makers within the firm,” according to the report.
“Smaller managers that are eager to gain business and lack the resources for frequent committee meetings will employ a method that allows them to act fast,” Swansey said.
Cerulli reported that most larger firms — those managing more than $500 billion — have established pricing committees to decide on fee discounts. These groups typically include department heads from the investment, sales, finance, and legal teams, according to Cerulli. Such committees help ensure that large, global firms adhere to legal obligations such as most-favored nations clauses in client contracts.
“This kind of structure has the potential to boost synergies between teams, aid in thoughtful decision-making, and increase transparency,” Swansey said. “However, these committees can become burdened by the number of discounting discussions, and the process of going through a committee can take longer than some quick pricing negotiation turn-around times.”