Flat fees vs asset-based
We charge either flat fees or asset-based fees depending on the service element, as the fairest way to align costs and value. We explain our reasoning here, placing it in the context of different industry opinions about the right way to charge for investment services.
Flat or asset-based: our charging philosophy
How a firm charges ought not to be the basis of your decision when hiring an adviser or manager. You want the relationship to be collaborative and non-exploitative but the payment method will not alone tell you whether it will be. No method is absolutely right for any one service element or type of service. Conflicts between clients and agents are as inherent as charging itself. You need to look for other evidence to persuade yourself that interests will in practice be aligned. There are no shortcuts.
Many of the differences in charging approach you will encounter reflect differences in the form and mix of services, particularly where one aspect tends to dominate. Financial planners, for example, should be expected to hold different views about how best to charge from discretionary managers. All, however, should have a basis for their adopted approach that they can communicate.
Since we opened our doors in 2005, we have always sought to balance conflicting objectives when working out how to set fees, for a service that fully integrates financial planning and discretionary portfolio management:
- the virtue of simplicity and clarity
- minimising cross subsidies between clients
- minimising conflicts of interest arising from different charging methods.
In the early years, when we operated like a multi-family office with a small number of self-similar clients, the fairest way was each family unit paying their fair share of the cost of the office, which meant flat and equal fees for all service elements.
As the business grew and the range of clients by type and size expanded, including endowments and charities, ‘fair shares’ came to mean more complexity and diversity. So the appealing simplicity of flat and equal fees was no longer fair. We therefore needed to vary the charging basis by service element.
For some service elements, one or other charging method (flat or asset-based) makes most sense in economic terms for both parties. But that doesn’t read across to all service elements. We are therefore comfortable adopting a mix of flat and asset-based fees, as set out in our fee schedule here.
- Planning lends itself to flat fees that are not contingent on the setting-up transactions they may lead to.
- They should vary between clients but only because of the scope and complexity of their affairs.
- Ad hoc advice that might require a transaction (like insurance) lends itself to flat fees that are not biased to effecting a transaction.
- The amount should vary between transaction types but not clients, as a function of direct costs (mainly time-related).
- Portfolio management is almost universally based on asset-based fees, for what we see (on balance) as good reasons.
- In purely economic terms, from the client’s perspective value matters. The persistent dominance of asset-based fees, in spite of potential competition from flat fees, implies that investors do in fact associate the value obtainable with the amount of base capital the service applies to. Economies of scale apply but these are typically addressed by regressive fee scales (in our case we go further and apply an absolute cap).
- From the manager’s perspective, the economics of cost + profit are more complex. Some of the costs are a function of assets under management: professional indemnity insurance, regulatory costs and capital reserves for contingent liabilities. Others are largely independent of portfolio size but not necessarily portfolio complexity, particularly when portfolio solutions are dependent on the nature of the client’s goal.
- This mix argues economically for a hybrid mix of flat and variable fees. We tried this. Whilst we found we could explain the rationale, putting numbers on the different elements and by type of portfolio proved too complex and unpersuasive. Some non-clients looking at our fee schedule were even suspicious the unfamiliar approach concealed a self-serving motive. In 2020 we adopted a pure asset-based fee but with caps and a floor.
- The link to time-varying market values necessarily introduces potential conflicts of interest between manager and client. But there are other ways to show how that is not in fact biasing a manager’s decisions. For us that was about a quantitative decision process with the client interacting directly with our decision engines. We explain how we avoid fee bias from the charging method here.
Read more on the flat fee debate
It is obvious from our past experimentation with different charging methods that we have much to say about the debate, from both a theoretical and an empirical standpoint. It is also clear we are open to fresh ideas. Our observations are set out more fully in this article. We welcome discussion.