Advisory Fee Breakpoints: A New Look at the Data - February 2012
Written by Sara Yerkey, Management Practice Inc and Max Rottersman, FundAnalyze.com   
     What percentage of open-end mutual fund assets have advisory-fee breakpoints? The answer might surprise. Almost 40% of all fund assets provide economies of scale to their shareholders by including board-approved breakpoints in their fee structures.
      However, from 1995 to 2010 the number of funds with breakpoints declined from 32% to 23%. This may speak more to a shift in industry products than a change in the use of breakpoints.  For example, there has been a significant increase in the number of small funds and ETFs that are less likely to have breakpoints.

      In comparison to the number of funds with breakpoints, the percentage of assets with breakpoints has increased slightly, from 36% to 39%, as the larger funds have maintained the practice of implementing these fee structures. There does not seem to have been a significant increase in board-approved breakpoints in recent years.

      There are a large number of variables that influence the likelihood of breakpoints, including investment style, size of fund, whether the fund is retail or institutional, or an exchange traded fund, or the size of the family to which the fund belongs. The following chart details a breakdown of the percentages of funds that have breakpoints by investment category, as well as the percentage of assets within those categories. These exclude fund-of-fund, target date funds, variable annuities and ETFs.

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      This research finds that there are only slightly more equity funds with breakpoints. Equity funds may have more flexibility in fees because of the higher starting points. There is a greater range in the percentage of assets that have breakpoints, from 25% of money markets to almost 50% of equity funds. The greater percentage of assets than funds in the equity category indicates that the larger funds are more likely to have breakpoints in place.

      As equity funds currently have the greatest percentage of breakpoints in place, we will look at the impact these breakpoints have on advisory fees. The following chart shows the average calculated effective advisory fee at each $500 million in assets.  It compares the average advisory fee of all equity funds to the sub-set of only funds containing breakpoints.

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      Looking at the universe of open-end equity funds (excluding fund-of-fund, target date funds, variable annuities and ETFs) effective fees start at 72.9 bps and decline to 69.0 bps over a $14 billion asset range. Within the same asset range, equity funds that have breakpoints see almost a 9 basis point decline in effective advisory fees from 71.8 bps to 62.4 bps. The majority of the fee reduction is realized within the first $3 billion asset increase. The initial fees of the equity funds containing breakpoints are slightly lower than the entire equity universe.

      Depending on the asset level of the fund, the operating structure of the management firm and the fixed versus variable expenses, breakpoints can do more to pass on cost savings to the shareholder than the naturally occurring economies of scale enjoyed at higher average assets. Trustees often have more immediate and direct influence on the breakpoint schedules. For more relevant breakpoint analysis, Management Practice helps trustees compare their funds to specific peer groups as part of, or a supplement, to their 15(c) process.

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      Management Practice Inc. is a specialized consulting firm based in Stamford, Connecticut, and provides governance, economic, and business advice as well as diversity process counseling to mutual fund boards.