This content is from: Practice Management

Advisors Are Utterly Failing to Explain Fees to Clients

A State Street survey shows “major gaps” between reality and investor perceptions.

Asset management fees continue to be in the spotlight, as managers with enormous scale roll out cheaper products and institutional investors haggle with other managers over costs. Private wealth managers face their own fee specter, although perhaps less troublesome because many of their clients don’t understand what they are paying, according to a new report.

Nearly half of investors (47%) believe the management costs of investments like mutual funds and ETFs are included in the fee they pay to their advisors or investment platform, according to State Street’s latest Low-Cost Investing Survey.

If you think having clarity and knowledge around fees should be a natural benefit to investors working with a financial advisor, it turns that’s not the case. Out of investors currently working with an advisor, 60% believed the cost of funds was included in their advisor’s fee. Thirty-seven percent of self-directed investors thought the same about advisors.

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Younger investors were even more likely to believe fund fees were included; 71% of Millennials thought they were, compared to 51% in Generation X and 36% of baby boomers. Older investors presumably have had more investment experience, according to State Street. The company analyzed 224 adults with investable assets of at least $250,000.

“Comprehension of investment product fees – and fees in general – is low even among those working with an advisor. This underscores how much work our industry has to do when it comes to price transparency and investor education,” Brie Williams, Head of Practice Management at State Street Global Advisors, said.

“There’s a clear opportunity for advisors to talk to clients about what they own, why they own it, and how much it costs.”

Some advisors might incur wrath if their clients learned they were paying for a mutual fund or ETF, especially depending on the expense ratio. Investors who indicated they understood expense ratios and basis points said the average expense ratio was no longer considered “low cost” at 0.61%. The asset-weighted average expense ratio of U.S. open-end mutual funds is 0.51% and the average asset-weighted ETF cost is 0.20%.

Still, those costs aren’t what investors are most concerned about, State Street’s survey showed. Asked to rank factors of importance when evaluating investments like mutual funds and ETFs, more than half of investors said “risk compared to return” and “quality of stocks in the fund.” Nearly half said performance compared to peers (46%) and performance compared to the benchmarks (42%). Only 35% chose “management cost of the fund.”

Wealth managers that fill in the “major gaps” in understanding fees and expenses might find clients are comfortable paying them, prefer a different advisory fee, like an increasingly common fixed annual fee, or want different investments.

ETFs continue to grow and evolve, making strategies once exclusive to mutual funds more accessible and cheaper. Even holdouts like Dimensional Fund Advisors, the $660 billion asset manager famed for its factor investing mutual funds, recently began converting some strategies to ETFs. Low-cost mutual funds are gaining traction and giving that industry a glimmer of hope.

“The bottom line is, when all other variables are equal, lower cost investments can help investors keep more of what they earn in their portfolio,” Williams said.

Michael Thrasher (@Mike_Thrasher) is a reporter at RIA Intel based in New York City.

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