Brokerage Accounts Are Going to Cost More

LONDON -- An announcement made this week, barely covered in the press, is going to hit many investors where it hurts: their wallets.

Simply put, many brokerage accounts that are now free or heavily cross-subsidized will cease to be so. So if your SIPP or ISA is with market-leading Hargreaves Lansdown (ISE: HL.L) , for instance, expect to hear about a change to the firm's charges. Ditto, of course, for other brokers -- including the well-regarded low-cost online brokerage arms of Royal Bank of Scotland and Lloyds Banking Group.

Now here's the good news: The bulk of the changes shouldn't come in until the start of 2014 -- and when they do, many investors will be better off, not worse off.

How so? Read on.

Blanket ban
What has happened is that the Financial Services Authority has finally decided what to do about the payments fund managers make to the platforms that distribute their funds -- "trail commission," as it's termed in the trade. And to cut to the chase, they're going to be banned. Take it away, FSA:

We are proposing a ban on platforms being funded by product providers. Platforms are primarily providing a service to the end consumer... and the way in which the consumer currently pays for the platform service hinders transparency, and has the potential to negatively affect competition in the market.

To ensure the consumer is clear on the cost of the platform, we believe the consumer should pay an explicit fee for the platform service, and payments from product providers to platforms should be banned.

This shouldn't come as a surprise. Last year, as I wrote, the FSA had clearly decided that trail commission ran counter to the spirit of the Retail Distribution Review.

That said, it felt the need to consult with the industry -- fund managers and fund supermarkets such as Fidelity, Hargreaves Lansdown, Bestinvest, and Alliance Trust Savings -- about the impact of such a ban. This week, having heard the various representations made to it, the Authority announced the conclusion that it had come to.

While trail commission would be banned, the ban would only take effect from the beginning of 2014. Detailed rules and timescales, it said, would be announced at the end of this year -- and meanwhile, it was once again consulting the industry on how best to phase them in.

With the end of trail commission comes the inevitable end of the free and cross-subsidized accounts those trail commission payments help to fund. On the other hand, costs overall should come down, at least for fund and tracker investors. Trail commission makes up about half of the annual management charge levied by funds, so total expense ratios will drop sharply as competition among fund managers takes effect.

Hello, Vanguard
For investors, the big bonus of all this is the impact on transparency and competition.

Leading low-cost index tracker provider Vanguard, for instance, has struggled to get access to fund supermarkets because it doesn't, and won't, pay trail commission. Accordingly, many fund supermarkets don't offer Vanguard. As of late last year, Hargreaves Lansdown does -- but only on payment of a 2-pound per-month, per-tracker, per-account charge.

Ban trail commission, and fund supermarkets' objections to Vanguard will vanish -- and be replaced by a desperate scramble to stock Vanguard funds in order to appease investors who will be demanding them.

No wonder, then, that Nick Blake, the amiable head of retail at Vanguard, could scarcely contain his delight:

Vanguard does not provide rebates to platforms, and we welcome the FSA's intent to create a level playing field for non‑rebate paying funds. Until now, consumer access to low cost funds and ETFs has been restricted by the commercial models in place. [The proposals outlined today] will widen consumer choice and help drive greater transparency and value for money for investors.

Brave new world
Given the extent to which the FSA's intentions had been signaled, few in the industry have been surprised. The reaction of Fidelity's Ed Dymott, for instance, was typical:

Business models are already transitioning in line with many of these proposals. As with any consultation process there are bound to be areas which need refining, and we will continue to work with the regulator to resolve these having fully reflected on the draft rules we now have. We are comfortable with the timelines -- however, the detail needs to be worked through to understand the practical implications.

Peter Hall, chief executive of Bestinvest, was also sanguine -- and the more cynical among you will doubtless want to dwell on his last sentence:

It is better for clients to be able to see clearly what they are paying for a service. At the moment many investors have very little idea what they are paying for and where they can find the best value. The proposals will also remove the current risk of bias in the marketing and rating of funds, where the platform receives a higher rebate.

What next?
Frankly, it's difficult to underestimate the effect of all this. The nearest analogy that I can think of is the impact of the "Big Bang" back in the 1980s, which upset the cozy world of share dealing.

But just for fun, here are three predictions regarding what we'll see in the months ahead:

  • More brokers will ditch free accounts and implement charges. Watch out, too, for "per-quarter" fees to minimize the impact of "sticker shock" and per-fund "platform fees" based on the Hargreaves Lansdown model.

  • Expect more non-price competition -- more emphasis on free research tools (at least, free for clients), quality of service, and promotions such as low-cost dealing windows.

  • Much more price competition from index tracker providers who currently pay trail commission and shortly won't be able to. Among those I'm expecting to slash their charges: Legal & General, Aviva, and Henderson.

Interesting times ahead, in other words. But what are your predictions? Answers in the box below, please!

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At the time thisarticle was published Malcolm holds trackers with Vanguard and Legal & General, and holds shares in Aviva and Lloyds. He does not hold shares in any other company mentioned. The Motley Fool owns shares in Hargreaves Lansdown.Motley Fool newsletter serviceshave recommended buying shares of Hargreaves Lansdown. The Motley Fool has adisclosure policy. We Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. Try any of our Foolish newsletter servicesfree for 30 days.

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