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The Tide That Sinks All Boats

In its recently released 2016 Global Hedge Fund and Investor Survey, EY asked leading hedge fund managers about their flagship fund’s annual base management fee. The average this year was 1.35%, down a significant 10 basis points from 2015 and far below the typical 2.00% of years gone by. This drop was startling but consistent with a longer-term trend of active managers forced to lower charges in the face of heightened fee sensitivity in the market.

The chart below provides a historical perspective on fee sensitivity among investors in active management. The penchant for lower fee products (in this case actively managed mutual funds) began in earnest at the turn of the millennium. Since 2003, cash flows to funds with the best cost structures began to consistently and strongly outstrip flows to the majority (lower 80%) of funds in more expensive share classes. Over the last few years, with the growing popularity of low priced index products and rising DOL related concerns, less advantageously priced funds have actually begun to suffer persistent outflows with inflows becoming largely concentrated in the cheapest (top 20%) of products.

compression chart

We expect fee compression among active managers to continue at least in the intermediate term as investors demand more alpha at lower costs. We also expect managers to search for ways to offset revenue shortfalls by creating greater efficiencies in production, distribution and marketing of actively managed solutions.