The argument is they are gambling with just a downside, so why are they not just buying indexed funds, right?
If you lose money on actively managed funds, you lose the money. If you win money on actively managed funds, you get a small part of the win, and give away a large part of the win to the guy who was gambling (how large is clearly a contract question). If the part you give away is too big, you are playing a fools game. The article isnt describing how much was fixed costs and how much were bonuses paid on outperforming funds, so it's hard to tell if they are indeed playing a fools game, but it seems at least possible.
Why pay someone to gamble for you if he will take 95% of the winnings but not eat any of the losses? If this is this because the managed accounts actually under-performed to expectation - ok. If it is because you're paying too big bonuses on exceeding some easy to reach baseline - not ok.
> Why pay someone to gamble for you if he will take 95% of the winnings but not eat any of the losses?
From the article:
> So for instance in U.S. equities the funds got annual returns of 8.24 percent for 10 years, versus annual fees for U.S. equities of about 0.08 percent. So the funds got 99 percent of the returns on their investment, and the managers got 1 percent of those returns.
But the important part isn't annual return, it's annual return compared to similarly risked options. Which are in the 7-8% range for the last 10 years depending on when you start counting.
I'm paying you to beat the average - I can achieve the average myself, at a lower risk by just investing evenly across the board.
If the funds delivered 8.24%, and matching S&P would have gotten me 7.5%, then you're in fact keeping 15% of what you gambled for. And if you had delivered 7.0% I would have eaten that loss compared to the average.
The article suggests that the fees were comprised of management fees only.
This is a common structure for "long only" management funds that limit their exposure to public equities and are under significant restraints in how "creative" they are allowed to be.
That is paying a fixed price for someone to gamble for you.
If you look at it objectively, a more sane pricing model would be that you get a discount on the flat fees compared to what you would pay for a non-managed fund, but with a bonus paid on earnings.
The value proposition from the fund managers is that they can significantly outperform a non-managed fund. If that is true, then what they lack is capital to actually play on a large enough scale (if they had the capital they would just play with their own money after all). Pension funds have a large amount of capital that they want to accrue interest on.
The win-win scenario is that the fund managers agree to handle the money at a lower cost than what having them in some form of indexed managed would be, but that in return they take a share of any profits that are generated.
If you just add on a flat % fee that is higher than what the indexed fund would charge, then the fund manager isnt assuming any risk.
They should be. There's no way the 5X charge is worth the active management. And yes, I realize that in this 10 year period it was, but that's just variance.
Vanguard has a total US stock market fund for institutional investors, with a minimum investment of $200M, that has an expense ration of 2 basis points (.02%) The FTSE world ex US fund is 10 basis points and a $100M minimum.
At $57B and $27B invested respectively I imagine the city could negotiate an even better deal if it was going to put all the money in each category into a single fund.
That said, the author of the linked article does have a point. The expense numbers on the public market side don't look outlandish when expressed as an expense ratio rather than a ten year total number.
