When Should You Pay Active Fund Fees?

When is it worth paying higher fund fees for active fund management? The single most important factor effecting a fund's relative performance is its price

Richard Whitehall 22 May, 2017 | 9:48AM
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Richard Whitehall: One of the main changes in the finance industry in recent years has been an increased focus on costs, when considering investment decisions. At Morningstar, we would consider this as step forward. We have long championed that the single most important factor effecting a fund's relative performance is its price.

But this raises a question of when should cost constrained investors consider paying active management fees. At Morningstar Investment Management, we already manage portfolios with fee caps and there are three areas where we would decide to spend fee budget on active managers.

The first would be when accessing asset classes which can’t be accessed through cheap passive vehicles. A good example here might be high yield which is difficult to access passively in funds. In 2015-2016 we saw good value in high yield and therefore decided we wanted to enter the asset class and we did that by accessing active managers and being prepared to pay the fee budget because we felt the opportunity was strong.

The second example would be when accessing active managers where they are in an area which has the best chance to outperform. And a good example here might be small-cap equities. Not necessarily covered widely by sell side investment bank analyst, there is a good opportunity here for active managers to really outperform.

Thirdly and lastly would be where you are accessing a fund manager who is very active taking high amount of relative risk, high amount of active risk and therefore being able to significantly outperform the passive alternative.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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Richard Whitehall

Richard Whitehall  is a portfolio manager for Morningstar Investment Management