Investors pay the cost of their advisor using a Discretionary Fund Manager (DFM) and advisors typically do not reduce their fees to offset the cost of a service they have outsourced. Instead, the fees are offset by the cost savings DFMs achieve.
The DFM fee is an asset management fee that is paid by the investor for investment management services provided to them, Jonel Matthee Ferreira, chief executive officer at Cogence, says. A DFM aims to provide a more consistent return profile through different market conditions to ensure clients reach their long-term goals, she says.
Investors should pay the fee because they enjoy the benefit of professionally managed portfolios, Leigh Kohler, head of DFM at INN8 Invest, agrees.
Fees offset
Generally, most established DFMs are able to access cheaper fee classes – fee classes that investors cannot access directly – which effectively means the investor enjoys a professionally managed discretionary portfolio that is often “paid for” via the fee discounts accessed by the DFM, Kohler says.
Pat Magadla, head of distribution at Equilibrium, says some advisors try to avoid a DFM due to the additional layer of cost that the investor bears. However, it is more constructive to understand and outline the value that a DFM partnership affords an advisor and their clients, he argues. The fee provides access to a team of skilled investment professionals, that utilise best-in-class tools and technology, to make the most appropriate fund choices for investors’ portfolios, he says. A DFM can use passive strategies to keep costs low, where appropriate, but they should never do so if it sacrifices returns, he adds.
George Dell, executive director at MitonOptimal, says nine out of 10 times when an advisor partners with MitonOptimal, the overall fees investors pay are the same or are reduced compared to what they were before the partnership. Dell says passive investments used in portfolio construction can keep fees lower. Additionally, DFMs have the scale to access lower fee classes than individual advisory practices and know which instruments to use to reduce portfolio costs, he says.
While DFM fees vary considerably depending on the level of portfolio customisation offered to an advisor, DFMs offer core portfolios on all platforms with costs as low as 0.18%, he says. Some investment platforms also impose limits on DFM fees, he says. Allan Gray, for example, caps DFM service fees at a maximum of 0.35% of the investment.
Ian Beere, wealth manager and chairman at Netto Invest, says DFMs earn their fees by bulking investments and taking responsibility for the asset allocation decisions.
Disclosure issues
DFM fees should be reported to investors on their investment statements. The DFM will produce a fund fact sheet for the model or wrap portfolio and the cost of the underlying investments together with the DFM fee should be disclosed as a total expense ratio (TER), Beere explains.
When DFMs manage their portfolios as unit trust funds, the Financial Sector Conduct Authority (FSCA) requires that all fees and charges, including the TER, total investment charge and total cost ratio, are reported in the minimum disclosure document to ensure transparency.
Although it is currently not required disclosure, some DFMs provide a breakdown of the TER, showing the portion paid to the manager for its investment management services and the total cost of the portfolio, Dell says.
The practice of advisors with Category II licences taking investment management fees and advice fees on the same investments, often referred to as “double dipping”, is a concern for the FSCA. In discussions on investment-related matters as part of the Retail Distribution Review, the FSCA highlighted that advisors who earn fees for managing investments and providing advice face potential conflicts of interest.
Dell says the FSCA has suggested that advisory practices managing their own investments without a DFM may, in the future, be required to separate their investment management business from their advisory services. He says some offshore platforms only engage with investment managers which requires the DFM to collect both the investment management and advice fees and to then pass the advice fee on to the advisor.
Investment double dipping
Another “double dipping” concern arises when DFMs earn a fee and invest in their own funds on which they also earn a fee.
Zietsman says PortfolioMetrix typically does not charge a DFM fee – it prefers to charge an asset management fee in its funds and does not double dip when a portfolio invests in one of PortfolioMetrix’s underlying funds, he says.
Any situation where the DFM is conflicted and can potentially make more money from a certain decision, will undermine the objectivity of their choice, he says.
DFM add-ons
Many DFMs are providing services beyond investment management to advisors but all their fees are paid for by investors as investment fees and although advisors are outsourcing some of their work, they are not reducing their fees.
Kohler admits advisors also enjoy the benefits of a DFM partnership as they achieve greater efficiencies in their practices, better investment propositions, access to tools and technology and reduced risk, among other things.
Zietsman argues that when an advisor’s client invests in a model portfolio and signs an investment mandate with a DFM, the DFM is accountable for suitability risk in terms of the Financial Advisory and Intermediary Services (FAIS) Act. He explains that by including tech tools such as risk profilers and cash-flow models in the DFM package, DFMs can ensure a consistent link between advice and the investment solutions. PortfolioMetrix provides financial advisors with its financial personality assessment technology along with other tools to ensure suitability issues are covered, he says. But DFMs do provide other “free” services to advisors which can be a problem when the benefit accrues to the advisor, but the client is paying, he says.
Craig Gradidge, independent financial advisor and co-founder of Gradidge-Mahura Investments, says the compliance burden on advisors has increased significantly, negatively impacting advisors’ profit margins and resulting in them opting to outsource to DFMs. However, while advisor margins are reducing, the total average annual costs paid by investors is reducing, he says, citing a survey conducted by NMG that found advisors and DFMs reporting average annual costs for investors have reduced from 2.14% in 2023 to 2.10% in 2024 and are expected to reduce to 2% by 2028.
Seeing the value
Advisors and their investors need to know any fee they pay is worth it.
Kohler says if the DFM can consistently meet the client’s objectives on a net-of-fees basis, then the fee is worth it. Generally, the investor’s objective is linked to inflation or an inflation-plus benchmark. It may also be linked to average peer performance, he says. If the DFM is able to outperform these targets or objectives, then the fees are justified. But it’s important to measure performance over appropriate time horizons, he adds.
