Institutional investors are getting their money’s worth when it comes to high fees, according to Investment Metrics, a portfolio analytics company. The firm’s analysis of active manager peer groups found a positive correlation between the returns that active managers generated and the fees they charged their clients.
The peer groups in the data set included U.S. broad core and U.S. broad core plus fixed income; global large-cap equity; U.S. large-cap growth equity; and U.S. large-cap value equity active manager. Out of a data set of active managers with fee mandates ranging from $10 million to $100 million, almost all of the high-fee managers were in the first quartile, based on three-year annualized return figures.
“There’s a lot of passive pressure within U.S. large cap equity,” Scott Treacy, institutional market research manager at Investment Metrics, told Institutional Investor. “A lot of active managers have been terminated and gone into passive. The ones that have remained in active are the better-performing managers. Those that were not doing as well were fired, and, as a whole, the better managers are holding onto the mandates and are charging higher fees.”
Treacy also attributed the trend to manager pushback against fee pressure. He said that some top-performing managers may reject the pressure to lower fees, arguing that they need adequate compensation in order to produce high-quality research that is differentiated from the market and will produce strong active returns and ultimately, benefit investor portfolios.
The only exception to the positive correlation between higher fees and strong performance was in the U.S. large-cap value equity active manager environment. In this category, managers who were ranked in the fourth-quartile charged the highest fees. Treacy explained that in this category, the difference between fee levels wasn’t very large. “In that universe, they [were all] around the same [median] fee level,” Treacy said. “The difference between the first and fourth quartile [wasn’t outlandish].”
The analysis also found that public pension plans paid much lower fees compared with corporate plans, endowments, foundations, and Taft-Hartley plans. In fact, in three out of the four peer groups observed in the study, public plans paid less than the other types of plans. In the global large-cap equity universe, public plans had a 30 percent lower median fee level compared with other types of plans, while in the U.S. broad core and core plus fixed income peer groups, public plans had 10 percent lower median fee levels.
Treacy attributed the lower fee levels for public plans to the fact that fee information is much more open and readily available for these types of institutions. This allows these plans to know what their competitors are paying managers, which may help them negotiate better fees. He added that corporate pension plans and other types of institutions are also generally more willing to pay for performance. “Corporate plans, endowments and foundations have a higher allocation to hedge funds,” Treacy explained. “If you have exposure to hedge funds, you’re paying higher fees for good performance, and that might carry over into the active public equity manager space.”