The reality of the platform business

The following is another guest post from our industry expert who prefers to remain anonymous in sharing these insider tips with us. While we’ll always want to hunt down the cheapest funds and the most cost-effective platforms, I think it’s worth us understanding all of the realities of the investing business.

Everybody hates platforms. What might surprise you is that fund managers hate platforms every bit as much as you do.

While private investors jibe at the costs, the annoying extra charges, and those exit fees, what bugs the fund managers is the difficulty and cost of actually getting on the damn things.

Like most businesses, platforms exist to make a profit for their shareholders.

Except that they don’t.

When the FSA, as it was then, commissioned a leading firm of accountants to analyse the industry in 2012 ahead of RDR, it revealed that only one of them made any money. (But that one did make a lot.)

So why do the others platforms do it?

A business on the margins

Initially many platforms began life simply as a way for fund managers to market their products and make lives easier for IFAs.

They started as a one-stop shop where IFAs could put all their clients’ investments in one place and just get one statement.

Pretty soon though, fund managers realised they could encourage intermediaries to sell more of their funds if they provided some encouragement, known as trail commission.

But now the FCA1 has decided the industry should be transparent about everything, and that has made life a lot more difficult. Even worse, this is happening just when low cost passive funds that don’t pay trail are getting more popular – and fewer people are saving anyway.

Because most platforms lose money, they don’t really want to do anything that might make them lose more, such as stocking a never-ending range of funds. So it is a battle to get a fund onto some platforms and may even involve the payment of a so-called shelf fee just to be included.

Others just point-blank refuse to host a fund they don’t think won’t sell.

Before committing to a platform it is therefore a good idea to see exactly how many funds they stock. It doesn’t help investors much if fund managers create low cost funds but they are not available on the platform of your choice.

Since investing is a game for the long term you want to be fairly confident that the platform will be around for the next few decades.

That is not easy to assess. Nevertheless it is more likely that the profitable ones will survive.

Those that are tagged onto fund management operations as a distribution mechanism might suffer the cost-cutters knife in a few years. If so, this could force investors to move funds and possibly incur costs such as exit fees or maybe even tax. At the very least it involves more paperwork – the very thing platforms were invented to minimise.

Behind the best buy list

Platforms are just there to facilitate investing and keep the process as simple as possible. They most certainly do not provide advice to the investor using them for execution-only.

That might sound odd though to people who see the list of recommended funds that so many promote, whatever they happen to be labelled.

Getting onto these lists is the Holy Grail for fund managers.

Once upon a time such a list might have been compiled through the sage judgement of a seasoned market analyst. However, fund managers soon realised that inclusion in such a list was well worth a good lunch, a game of golf, or maybe just an enhanced trail fee.

Quite why such a distortion of the word recommended – or whatever other euphemism is used – has been allowed to persist for so long by the FCA and its predecessor is a mystery.

Well, no it isn’t actually.

While it is true that some cheap funds are now included in such panels, most of the incumbents are heavily promoted, well known and, usually, the largest funds in such compilations.

After all, why should the platform or broker take a risk on its reputation when it can get an easy life by sticking with the big guns?

Those of an older generation may remember the aphorism; you never get fired for buying IBM – a phrase that emerged in the hey-day of big computing when no one was quite sure what was going on. Buying the market leader was a safe, career-enhancing move.

No platform is going to risk its reputation promoting new funds, especially if they are small and do not spend much on promotion.

Consumers might think that in the new post-RDR investor-friendly world that marketing budgets are less important.

Think again.

The new rules allow managers to assist platforms with marketing costs, such as mail shots. Who could resist the opportunity of getting someone else to pay for the postage and other costs of reminding all your clients that you exist and are ready to help?

If platforms didn’t exist, someone would have to invent them

Perhaps the worst aspect of platforms for fund managers is that they have no idea who their clients are. All they get is a figure for money in or out.

Not knowing exactly who your customers are is major handicap for any business. For one like finance that relies so much on trust, it is a near-fatal flaw and makes it even more impersonal.

But the unfortunate truth is that maintaining all those records, dealing with money laundering checks, sending out reports and dividends is time-consuming and expensive. Fund managers want to manage money, they don’t want to run databases and satisfy the FCA on dozens of different issues.

For all that stuff platforms fill a valuable role. We might not like them, but no one is keen of taking on the tasks they do and certainly not at the prices they charge.

See our table to choose between the different fund platforms.

1. Financial Conduct Authority [↩]