P1’s CEO, James Priday, explores how advisers could use higher interest rates to offset platform charges…
Platform charges have been a topic of much debate for many years but it seems that now, with inflation a key economic issue and rising interest rates, investors and advisers are starting to turn their sights on better value for money.
With the Financial Conduct Authority’s (FCA) Consumer Duty rules kicking in last month, specifically focused on addressing the issue of fair value for customers, value propositions and fees will likely remain under scrutiny for some time to come.
For platforms in particular, Consumer Duty rules state that firms must set fair value charges for using the platform. In some cases, the platform provider will be the final firm in the distribution chain. As such, it should consider the overall proposition, including fund charges, to consider if it provides fair value.
Equally, in the FCA’s Investment Platforms Market Study in 2022, the regulator found that clients found some activity-based charges hard to locate, such as telephone trades costs, foreign exchange, and interest on cash. The regulator stated that platforms need to provide both existing and potential clients with:
- All costs and charges – clearly explained
- Total prices/aggregated costs – expressed both as a cash amount and as a percentage – with a breakdown available
- Illustrations showing the effect of costs on returns
As an investment platform, part of our mission is to help clients maximise investment returns whilst minimising costs. Platform fees can impact returns, but in the higher interest rate environment, it’s possible to effectively offset fees through cash holdings within a portfolio.
We will explore two examples of how advisers can use cash holdings and low platform fees to reduce fee drag on their client’s portfolio performance. As an example, we’ll look at our own platform which charges a fee of 0.15% on the value of the client’s platform account and assume a client’s ISA holdings amount to £100,000.
Some 3.35% interest is currently being paid on cash holdings (passed straight through to clients without deductions).
Example 1: £100,000 portfolio with a typical 2% cash allocation
The platform fee would amount to £150 per year (£100,000 * 0.15%). However, with a 3.35% interest rate on the cash allocation, the client can expect to earn £70 (£2,000 * 3.35%) in interest annually. So, by deducting this interest earned from the platform fee, the effective platform fee is reduced:
Effective platform fee = Platform cost – Interest Earned on Cash
This means that the client is now only paying an effective platform fee of £80 per annum (£150 – £70) or just 0.08%, on an account worth £100,000.
Example 2: £100,000 portfolio with increased cash allocation
Suppose the same client increases their portfolio’s cash allocation to 5% (£5,000). Applying the 0.15% platform fee to the total account value, the platform fee remains at £150 (£100,000 * 0.15%).
However, with the increased cash allocation, the client will now earn £175 (£5,000 * 3.35%) in interest annually.
By deducting the interest earned on cash from the platform fee, the effective platform fee becomes:
Effective platform fee = £150 – £175 = -£25 (-0.025%)
The client, therefore, offsets all annual platform fees and even makes £25.
Whilst we do not advocate increasing cash holdings simply to offset platform costs, it is important to view headline platforms charges along with interest paid on cash holdings, as that provides a better cost comparison when assessing one platform against another.
On the topic of value and fees, platforms might want to start taking a cold hard look at themselves before the FCA gets there first.