Do you enjoy paying hundreds of pounds a year out of your investments to a middleman who does nothing to help you? Almost certainly not. Few people do.
Yet if you’re buying your funds the wrong way, that’s exactly what you’re doing. If you’re investing directly with a fund manager or through an traditional broker, you are almost certainly paying far more in fees than you should.
For most investors, the best way to buy funds is to use a fund supermarket and a discount broker. Doing this could save you a great deal of money and also make managing your investments much simpler.
Let’s take a look at what these firms do, how it all works and how much you can save.
Fund supermarkets and discount brokers
Let’s start with a couple of definitions. A fund supermarket is a platform that allows you to invest in a wide range of funds from different companies from within a single account. Almost invariably, the supermarket will allow you to hold your funds in a tax-efficient wrapper such as an individual savings account (ISA) or self-invested personal pension (SIPP).
The first advantage of a fund supermarket is convenience. It’s clearly much easier to be able to deal with hundreds of different funds and dozens of providers from one account than end up with separate accounts with managers such as Aberdeen, Fidelity, Invesco and so on each time you want a fund from a new provider.
It’s also much quicker to reorganise your investments. The supermarket lets you switch from one fund to another, rather than having to spend days withdrawing money from one manager than paying it into another.
Supermarkets aren’t just for retail investors. In fact, their advantages are so great that brokers and independent financial advisers (IFAs) often use the supermarkets when buying and selling funds for their clients rather than dealing directly with the fund providers.
What a fund supermarket won’t automatically do is save you money. To do this, you need to pair it up with a discount broker.
This is a company that buys and sells funds on your behalf over the supermarket, like the regular brokers and IFAs mentioned above. The difference is that the discount broker’s main purposes is to cut the fees you have to pay – and the savings from a good one can be very substantial.
What a discount broker can do for you
To understand how the right combination of fund supermarket and discount broker can save you money, you need to know a bit about how fund fees operate.
When you invest in a fund, you pay an initial charge or entry fee (which can be 5% or more in some cases). You then pay an annual management fee (typically 1-2.5% a year). Finally, and less commonly, there’s sometimes an exit fee (perhaps 2.5%) when you take out your investment.
Many people aren’t aware that the fund manager doesn’t hold on to all this money. Instead, they pay a proportion of it to your broker or IFA as a commission for putting you into the fund. The share of the initial fee they get is called initial commission and the share of the management fee is called trail commission.
When a regular broker or IFA gets this commission, they hold onto it as payment for their services – ie the advice they’ve given you. But what happens if you don’t want advice and so want to avoid paying someone an ongoing fee for nothing?
Your first thought might be to go direct to the fund management company – but this usually won’t get you any discount. Instead, they’ll just pocket the extra part of the fee that they don’t have to pay as commission to the broker or IFA in your case, rather than give it back to you.
And this is where discount brokers come in. Essentially, a discount broker passes some or all of the commission they gets from the fund manager back to you.
Obviously, they still need to be paid for their service and different discount brokers charge in different ways. Some will simply charge a flat fee, some will hold on to part of the commission and some will charge their own annual fee based on the amount you have hold with them.
However, even after you’ve paid the discount broker’s fee, you should still end up saving a large amount – often the whole of the initial charge and sometimes about a third of the annual management charge on some funds.
Note that the savings the discount broker can pass on to you depends on the commission they get offered on the fund in the first place. This in turn depends on the fund supermarket they use.
Different supermarkets negotiate different rates from different fund managers – and then take their own cut of that commission as the fee for running the supermarket (this is known as the platform charge). Thus a discount broker that uses two different supermarkets may offer you two different discounts on the same fund depending on which supermarket you buy the fund through.
Exactly who gets paid what varies depending on fund manager, platform and broker/IFA. But roughly, if the fund has an annual fee of 1.5%, you might assume that the manager keeps 0.75%, the fund supermarket gets 0.25% and the broker/IFA gets 0.5%. So picking the right broker might save up to 0.5% per year in fees on your fund.
Who’s who among the supermarkets
There are three UK fund supermarkets that are widely used by brokers and IFAs. These three are
- FundsNetwork, which is owned by fund manager Fidelity, but offers funds from a number of other managers as well. You can open an account with Funds Network directly – but in fact there’s little reason to. On most of the funds it offers, you’ll save more money by using a good discount broker that trades on FundsNetwork, because FundsNetwork will only pass trail commission rebates onto brokers and IFAs, not to individuals. Currently offers around 1,200 funds from 70 managers.
- Cofunds, which is aimed at brokers and IFAs. You can’t open an account directly – you need to open an account with a discount broker that uses Cofunds. Offers around 1,500 funds from 90 managers
- Skandia, which more widely used by IFAs than self-directed investors, but is available through a few discount brokers. Again, it doesn’t let you open an account directly. Offers around 1,000 funds from 80 managers.
There are also a number of fund supermarkets set up by brokerage groups. Here, the distinction we made earlier between the discount broker and the fund supermarket begins to blur a bit, because both are part of the same firm. The three main ones are:
- Vantage, run by Hargreaves Lansdown. The best-known fund supermarket among individual investors, although not the cheapest. Offers around 2,400 funds from 200 managers.
- i.nvest, run by Alliance Trust Savings. Offers around 1,400 funds from 40 managers.
- Select, run by Bestinvest. A relatively new arrival, launched in 2011. Offers around 2,000 funds from 75 managers.
Apart from these, there are also platforms such as Ascentric, Nucleus and Transact that offer a wider range of investments and tax wrappers, but at a higher cost. They are used mostly by financial advisers for clients with larger portfolios.
Who’s who in discount brokers
Discount brokers vary greatly. Some are ultra-lean services designed for those who know what they’re doing and want to do it as cheaply as possible. Others offer extensive inhouse research and investment guides – but charge higher fees.
There are dozens of such firms offering access to Cofunds and FundsNetwork in particular. However, because one broker is generally clearly cheapest for any given fund supermarket, the number worth considering is much smaller. In practice, it’s probably less than six.
- Cavendish Online. For most investors, this is likely to be the cheapest of the lot. It offers the FundsNetwork platform and rebates 100% of trail commission. There are no explicit fees – it gets its cut from a small share of FundsNetwork’s platform fee. Absolutely no frills.
- Commfreefunds. Rebates all trail commission on the Cofunds platform and charges a 0.2% annual fee (capped at £60). It also offers FundsNetwork on the same terms, but Cavendish will work out cheaper for this.
- Clubfinance. Rebates 75% of trail commission on Skandia, making it the cheapest option for that platform (note that Skandia charges an explicit £68.50 annual fee as well as taking its platform fee so will be generally more expensive than FundsNetwork or Cofunds). Also offers FundsNetwork and Cofunds, but Cavendish or Commfreefunds will be cheaper.
- Alliance Trust Savings. Since this broker runs its own platform, it can rebate a share of the platform fee as well, meaning that it can sometimes offer bigger discounts than Cavendish. A £12.50 dealing fee and (for ISAs) a £25+VAT annual fee will offset that for smaller portfolios, but it may be the best option for larger investors.
- Hargreaves Lansdown. Rebates around one-third to one-half of trail commission on funds on its own Vantage supermarket. Provides extensive fund research information, which may appeal to less experienced investors, but fees are now looking quite expensive compared to its peers.
- Bestinvest. Rebates around one-third to one-half of trail commission on funds on its own Vantage supermarket. Like Hargreaves Lansdown, it provides plenty of online information, but again that comes at the cost of higher fees.
Using any of these firms could secure you some substantial savings. For an example, let’s take a look at the First State Asia Pacific Leaders Fund to see what you’d pay normally – and what these supermarket/broker combinations can get it down to.
|Alliance Trust i.nvest||Bestinvest Select||Cavendish and FundsNetwork||Clubfinance and Skandia||Commfreefunds and Cofunds||First State|
|Funds Network||Hargreaves Lansdown Vantage|
|Other fees||£12.50||None||None||Account annual fee of £68.50||Account annual fee of 0.2% (max £60)||None||None||None|
As you can see, there is a significant difference in how much the fund will cost through different brokers and platforms. The most competitive are Cavendish/FundsNetwork and Alliance Trust – the former will be best for smaller investors, while the increased rebate Alliance Trust provides will offset its dealing fees for larger portfolios. Note that going directly through Funds Network rather than using Cavendish doesn’t save you much – Funds Network just pockets your commission.
For more details of each of the brokers listed above, see the fund supermarkets comparison table. In addition, this very comprehensive article on discount brokers by Justin Mowdray on Candidmoney.com is also worth reading. He also has a detailed feature on the major fund supermarkets if you’re looking for more background information.