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How well do you understand the following terms and what's included within them?

 
Net performance

 
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The actual performance that fund investors experience after all costs have been deducted.
     
 
Ongoing charges figure

 
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The OCF is a basket of different charges. The biggest part of it tends to be the fund management company’s AMC (annual management charge) but it will also include several other charges, such as administration, custody, auditor and depositary fees. Typically, fund management companies have added these additional fees to their own AMC, meaning that the OCF tends to be a higher number. When we launched the CF Woodford Equity Income Fund, we took the decision to include all of these extra charges within the AMC – which means that the fund’s AMC equals its OCF.
     
 
Execution costs

 
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Dealing commissions for fund investors have historically had two components: the cost of researching the investment decision and the cost of executing it. In recent years, regulation has increasingly sought to separate the two. Nearly all trades that we undertake on behalf of our investors will be subject to a small execution commission, which is added to the cost of that trade and paid to the market counterparty with whom we deal for that specific trade.

These costs will inevitably be linked to the rate of portfolio turnover – the cost of execution will be higher for a fund which trades regularly, and lower for a fund which is managed with a long-term investment perspective. We deploy a very long-term investment approach, so execution costs will tend to be low. They are variable, however, and in some years, they will be lower than they were in 2015 and in some years they will be higher.
     
 
Research costs

 
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Dealing commissions for fund investors have historically had two components: the cost of researching the investment decision and the cost of executing it. In recent years, regulation has increasingly sought to separate the two. Fund managers consume research from various sources (economists, investment strategists, analysts) and in various forms (face-to-face meetings, telephone conversations, stock specific and bespoke research reports). This research helps to inform and shape the overall investment strategy as well as investment decisions at the stock specific level.
     
 
Transaction taxes

 
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Some assets, such as shares, are subject to Stamp Duty in the UK at the point of purchase. UK Stamp Duty is 0.5% of the trade value. All funds that invest in UK equities will be subject to this transaction tax but the amount paid will vary, depending on whether a fund is growing or shrinking. The level of transaction taxes is likely to be higher for a fund that is experiencing inflows than it is for a fund that is experiencing redemptions, because the growing fund will tend to be buying more shares than it is selling.

In order to protect existing investors, single-priced funds will ensure that new investors bear the cost of this tax, by using a ‘swing price’ policy or dilution levy. If a fund is seeing consistent inflows, the price of the fund will swing to the ‘offer price’. The offer price includes the costs of investing the new capital, including these transaction taxes.

In 2015, a period during which the fund saw consistent inflows, transaction taxes represented a cost of 0.03% of the fund’s net asset value, based on the fund’s average size during the year.
     
 
Spread

 
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For equities, there is a difference between the price you can buy any asset (known as the ‘offer’ or ‘ask’ price), and the price at which you can sell it (known as the ‘bid’ price). This is known as the spread.

The spread of individual assets will depend on several variables, including liquidity (how often that particular asset tends to trade) and the prevailing market conditions. The liquid shares of large companies that represent the biggest positions in the CF Woodford Equity Income Fund will tend to have a very narrow spread – there is only a small difference between the price at which you can buy or sell those shares. The less frequently traded shares of smaller companies, will tend to have a wider spread.

In this context, the spread represents an approximation of the difference between the bid and offer prices of all shares held by the fund. It is assessed and updated quarterly to ensure that it remains at an appropriate level.

When an open-ended fund is experiencing inflows and outflows, the level of trading activity will be greater than it would be for a closed-ended fund. As with transaction taxes, therefore, existing investors are protected through the use of a ‘swing price’ policy. If a fund is seeing consistent inflows, for example, the price of the fund will generally swing to the ‘offer price’, which includes the costs of investing the new capital, including the spread.
     
 
Portfolio turnover

 
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Portfolio turnover will be an important influence on the level of execution cost that a fund is exposed to. If a fund manager deploys a short-term trading strategy, portfolio turnover will tend to be high and, with it, execution costs could be significant. This doesn’t necessarily mean worse performance but high turnover inevitably increases the level of friction cost.

There are different methodologies for calculating portfolio turnover. Here, we have used the methodology defined by the US Securities and Exchange Commission (SEC) which uses the lesser of buys and sells (thereby ignoring the impact of inflows and outflows for an open-ended fund) divided by the average fund size.
     
 
Dilution adjustment

 
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Open-ended funds are normally either growing or shrinking. Due to the cost involved with investing new capital, or selling stock to meet redemptions, funds typically adopt a swing pricing policy or a dilution levy, where investors that are entering or leaving the fund bear the cost of the transactions at the point of their activity. For our fund, this takes place through a mechanism known as a ‘dilution adjustment’ which protects the fund’s remaining investors from potential dilution.

The dilution adjustment represents an estimate of the cost of trading activity related to flow in the form of execution costs, the spread between the cost of buying and selling shares and transaction taxes, such as Stamp Duty (which is only paid on asset purchases, not on sales).

Because the cost of transacting to invest new capital or meet redemptions is met by the investors that are entering or leaving the fund, they have been excluded from our published figures. These ‘net’ figures therefore differ from the ‘gross’ numbers published in the fund’s report and accounts, which include the cost of flow-related transactions.
     
 
How far do you agree with the following statements?

 
The fund management industry is good at explaining fees to investors

 
I have always realised that funds incurred fees that are not covered by the annual management fee / ongoing charges figure

 
Fund management companies should do more to explain the total cost of investing

 
The fund management industry needs a consistent way of explaining and illustrating the total cost of investing

 
Greater transparency on transaction costs allows me to judge how much value I am getting from a fund manager

 
Please let us know if you have any ideas which would further simplify the information we have provided about the total cost of investing

 
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