It never rains but it pours. That’s one way to summarise the recent woes of Chrysalis Investments' (CHRY) shareholders. First the trust got hit hard in the January sell-off, continuing a rough spell that has seen the shares lose roughly a fifth of their value over six months. To add insult to injury, we now know that the trust paid out £112m in performance fees to the investment manager on the back of a previous strong run.
Plenty has been said and written about the issues with this arrangement, including the fact that the calculation period for the performance fee, only runs for one financial year at a time and the calculation itself could be based more on paper gains than crystallised ones. As Stifel analysts recently put it: “There is a high risk that the management fee is high one year largely on unrealised gains. The following year may see a reversal in the net asset value and price performance, with a possibility that shareholders see negative returns over a two-year period.”
The Chrysalis board is set to review the fee arrangements, meaning we could yet see improvements. Bar some issues, the current arrangement is not vastly different from a usual 20 per cent levy on a set level of outperformance in the private equity space. But Chrysalis is a good example of the prevailing narrative that fees coming down doesn’t tell the whole story for investment trust shareholders.
By now, we’re all familiar with the broad downward pressure on fund charges, be they active or passive. Investments trusts have responded by slashing charges over the years, especially in cases where portfolio growth has resulted in greater economies of scale. Many investment trust performance fees have also bitten the dust as a result. Association of Investment Companies data provided to Investors’ Chronicle last year shows that nearly 30 performance fee arrangements had been ditched from the start of 2017 to mid October 2021, with many others reduced. That’s alongside widespread cuts to base management fees.
The problem is that performance fees are still commonplace in some increasingly popular alternative asset classes. The trusts that have dropped performance fees in the past five years have predominantly been equity vehicles.
By contrast, of roughly 70 trusts launched in the past five calendar years, around 20 have performance fee arrangements. Some of these are growth portfolios with some focus on unlisted companies, from Chrysalis to Augmentum Fintech (AUGM), Schroder British Opportunities Trust (SBO) and Seraphim Space Investment Trust (SSIT). That’s in keeping with a tendency of many private equity funds to levy such fees.
But it’s not just growth vehicles: recently launched Cordiant Digital Infrastructure (CORD) has a performance fee arrangement, as do the relatively income-focused music royalties funds Hipgnosis Songs (SONG) and Round Hill Music Royalty (RHM).
As we wrote last year, performance fees are also found on some specialist listed equity vehicles, including certain small-cap and sector funds. While I still believe good performance (be it returns net of fees or reliable income) is more important than charges, it’s frustrating that these arrangements are still rife, even if some asset managers, such as Baillie Gifford, have resisted their allure.
Hopefully, one day competition in alternative asset classes will help to eradicate performance fees that are levied alongside base management charges. For now, you might need to grin and bear it.
