Five things investors need to know
3. THE INVESTING INDUSTRY IS NOT YOUR FRIEND
LOUISE COOPER is a straight-talking financial journalist. She has been a presenter on BBC 5 Live and Radio 4, and she writes for several national newspapers. In this series, Louise discusses five important things investors need to know. This time she explains why, contrary to the impression it likes to give, the investing industry is not the investor’s friend.
How powerful is the fund management industry?
The fund management industry manages trillions and trillions of pounds in global savings. It plays a really important role in channeling savings to companies that need it. It looks after all of our retirements, and I think most people don’t quite understand the power of this industry, and how important it is to their own financial future. It determines your pension and whether you have a retirement of joy or a retirement of poverty and misery. It’s therefore extremely powerful, and it does not like those who highlight quite how much money it makes out of deluding and confusing investors.
It’s fair to say though, isn’t it, that the investing industry is slightly less powerful now than it used to be?
That’s right. I’ve got a great story for those of your readers who haven’t yet heard it. There was a truly legendary man called Jack Bogle, who died a couple of years ago, and he invented the first ever passive fund. He decided there’s no point in using active funds, because most funds don’t actually outperform an index. Most fund managers, when they choose what shares to buy or sell, do no better than throwing darts at a dartboard. And he came up with the idea that you should just buy all 500 shares in the S&P 500, all the tech shares in the NASDAQ, all the shares in the FTSE, just buy all the Japanese shares in the Nikkei 225, and so on. With a passive fund, over time, you will do better than a fund manager who thinks they can pick the shares to buy and the shares to sell.
So, in the mid-1970s, Jack Bogle came up with the idea of a passive fund. And he also has campaigned for decades on the importance of fees. This is the man who brought passive investing to the world and has done the most to ensure that ten of millions, if not hundreds of millions, of people around the world have much better retirements than they otherwise would have had. That’s because he drove fees down relentlessly at the company he founded, Vanguard, and also at firms across the industry because they have to compete with Vanguard.
Despite Jack Bogle being the most revolutionary man in the industry, the US fund industry trade association never invited him to speak at the annual conference. That tells you how vindictive the industry was to the man that made such a difference for all of us consumers, the people the industry is supposed to serve. And yet the American industry body would not allow him to speak at their annual conference. To me, that says all you need to know. The focus of the fund management industry is not on us as consumers; it’s on their own profit margins.
Why do you think regulators around the world have found it so difficult to stamp out bad practices?
Oh, regulators! Oh, regulators! There’s a problem with regulators full stop. It’s called regulatory capture. In other words, the regulators get way too close to the industry that they regulate. Because, if you think about regulating the energy industry, there’s probably only a few thousand people who work in that world. Three quarters of them probably work for the industry; the rest work for the regulator, and they switch jobs between each other. And guess what? The regulators’ jobs tend to be the lowest paid, but the industry jobs tend to be the highest paid. And so those working in regulation often want to jump ship into the industry and triple their salary. You know how it works. So that basically is the problem with regulators. It’s a very small group of people and the regulators get captured by the industry they’re supposed to regulate. It’s a problem for all regulators, and it’s a problem even more so for financial regulators because so much money is involved.
So I’m pretty damning of regulators. My personal experience has been that they were almost useless, almost pointless. So it’s no surprise to me that regulators do not crack down on this industry anywhere near enough.
The other issue is that this is complex. And so politicians often drive rules and regulation, and often politicians just don’t understand the world of high finance, and that has been demonstrated time and time again, particularly during the global financial crisis. So that’s another problem: it’s a complex industry that politicians often don’t understand. So the push from the lawmakers to the regulators to get on and regulate doesn’t happen as well as it should.
The growth of the transparency movement has been another positive development, hasn’t it?
Yes. One of the things that you have with a pension scheme, as opposed to people’s individual savings in the stock market, is that pension schemes have trustees. It’s their fiduciary duty to do the best for the underlying pensioners. These are the people whose job it is to look into abuses around costs and fees. The problem, though, is that this push for transparency doesn’t really get transferred into individual investments.
So we are seeing journalists campaign on this issue. There are some fund management groups that are campaigning on fees and transparency as well. So yes, there are some good guys out there. The trouble is their voices just get lost in the noise from those that make too much money out of high fees and other abuses, I’m afraid.
So do you think we’re moving towards a more consumer-focused investing industry?
The progress is extremely slow. Yes, we are moving towards a fairer, more transparent, lower-cost investing industry. But it’s slow. What is interesting is the realisation now for many investors — and that can be pension fund trustees or individuals — that low fees and simplicity are very important, and often passive funds are the best solution. So if you look at some of the fund flows, and who’s getting the new money, you’ll see that the flows towards passive are enormous. And it’s as if this drive is coming from consumers and pension trustees, rather than the industry cleaning itself up.
My mum has had individual savings accounts — tax-exempt savings accounts that invest in the stock market — for something like 30 to 40 years. I dread to think what charges she’s been paying. I can tell you now, they’re probably enormous and they haven’t come down. Over 30 years those fees have probably taken the vast majority of the upside in her funds.
A truly good industry would look at some of these rip-off products sold 20 or 30 years ago and say, “You know, we’re going to do the best for our customers and we’re going to cut the fees.” I don’t think that is what happens.
What can investors do to protect their interests in the meantime?
It’s all about fees, fees, and fees. Fees, fees, fees. They’re not easy to find out. Often you’ll have to call the fund manager and they won’t know what you’re talking about. You’ll get someone on a help desk and they have no idea what you’re talking about. Nor is it included in the marketing literature.
You need to dig out information. You need to go on your personal research mission to find out and compare your fund with others. A very basic way to do it is to compare it to a really simple exchange traded fund or what the FTSE’s done in the year, or what the S&P has done in the year. Look at the performance and look at the fees.
The other big naughtiness in the industry is closet index tracking. That’s when you’re paying for active fund management, for the manager of the fund to make decisions, when actually what you’re getting is passive. So a fund manager says, “I’m an active fund manager, I’m making the decision to buy Marks & Spencers and sell Apple” or whatever, and actually they own all 500 shares in the S&P 500. If you’re owning all 500 shares in the S&P 500 in pretty close to the amounts that a passive fund would, then it’s a passive fund. It may be calling itself an active fund, but it’s actually a passive fund.
So again, you need to do research, and what I mean by research is not looking at the marketing material. That ain’t research, that’s selling. I mean looking online, looking around, comparing performance, getting a handle on fees. Protect yourself. If you can’t be bothered to do all of that, and I certainly can’t, go low-cost and passive.
The original interview has been slightly edited for brevity and clarity.
You can learn more about Louise Cooper on her website.
ALSO IN THIS SERIES
Rule number one: cost is the most important thing
Finding the total cost is almost impossible
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Robin is a journalist and campaigner for positive change in global investing. He runs Regis Media, a niche provider of content marketing for financial advice firms with an evidence-based investment philosophy. He also works as a consultant to other disruptive firms in the investing sector.
