ETFs erode fee premium for exotic market management

The Lex Column

In fund management, specialisation can be a boon. Exotic or illiquid markets often require extra skills and administration. That pushes up the management fees for the fund groups supplying them, and helps them dodge some of the competition from cheaper ETFs. Emerging market equity products used to benefit in this way, but their premium pricing has begun to evaporate just as these markets start to rally.

Emerging market stock prices have gone up recently, faster than elsewhere. Even so, they have some catching up to do. Racier emerging equities have trailed developed ones by 39 percentage points since 2007.

During that bearish period, passive investment via exchange traded funds and index trackers became much more popular. That includes ETFs in the emerging markets. Better trading liquidity on the various exchanges has helped lower trading costs. That in turn led to competition between ETF providers. Vanguard, Amundi and iShares offer fees just a fifth those charged by an actively managed fund.

While the best active managers will always command a premium price, some discounting has already occurred among actively managed emerging investment trusts. This is a surprise given that the assets under management here are fixed and hence not under the threat of redemptions. Listed investment trusts from some leading names such as Genesis, Templeton and Aberdeen (now part of Standard Life Aberdeen) have all cut their management fees by up to a quarter in recent years, notes broker Stifel.

Also, asset allocators increasingly use cheaper ETFs in conjunction with a core of active funds to make quick tactical portfolio adjustments easier. Active managers frown on their clients shifting money in and out of their funds, which are intended to be long-term investments. But in this core-satellite model, less money is likely to go to the active managers.

Emerging market funds look less special and more of a commodity these days. Assuming that continues, fund groups such as Standard Life Aberdeen stand to make less profit from them in future.

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