Skip to main content

A Free Lunch?

Fidelity, the asset manager with $2.4 trillion assets under management, recently announced the launch of two index mutual funds with a 0% fee! This announcement is interesting for several reasons. First, the asset management industry has been involved in an intense price war and this new fee level of 0% represents a very tough benchmark for the competition to beat. Not surprisingly, the share price of rival asset managers fell by a few percentage points shortly after the announcement. Second, the new fee level is unusual as it indicates that, for the first time, investors could get exposure to both US and international equities without incurring any fee. This is a curious business decision. How will Fidelity manage to pay for all its expenses? Will this product be a loss-making venture? Is there more to it than meets the eyes?

Cook food kitchen eat 54455 1

It is useful to remember that Fidelity is a full-service company that offers a wide range of services such as advisory, insurance, credit card and trading. In fact, Fidelity derives a substantial share of their revenues from non-index funds. The asset manager may very well not aim for the new index funds to be profitable. Instead, they could use these products to attract investors and then cross-sell other more profitable lines. Following this logic, the losses generated by the new products can be thought of as marketing expenses incurred to enable the asset manager to raise revenues from other (more lucrative) existing products.

Recent research by Evans et al (2017) shows that a growing number of mutual funds engage in security lending. Briefly, mutual funds that own securities, e.g. a stock, lend the securities to short-sellers who, in return, pay a lending fee to the asset owner. If done on a large scale, a mutual fund can, in theory, reap potentially large benefits from this activity. While security lending make a positive contribution to the income of a hypothetical mutual fund, it involves a trade-off. On the one hand, the fund can boost its income. On the other, it is helping out short-sellers who are betting against the fund investors. This may not be an ethically desirable outcome or something that an investor would be expecting as a side effect.

Evans, R., Ferreira, M.A. and Porras Prado, M., 2017. Fund Performance and Equity Lending: Why Lend What You Can Sell?. Review of Finance, 21(3), pp.1093-1121. Find out more about Dr Chardin Wese Simen's research.

Visit profile Find out more about Dr Chao Yin's research here.

Visit Profile

Dr Chao Yin

 visiting fellow
Dr Chao Yin
Published 29 August 2018

You might also like

ICMA Centre High Achievers

9 October 2018
Outstanding academic achievement is celebrated annually at the ICMA Centre. This year the awards were presented by the new Head of School, Dr Carol Padgett.

Henley in world top 40 and UK top 10 in Financial Times Global Masters in Finance ranking 2016

20 June 2016
The FT ranking of the best Masters in Finance programmes in the world has seen year on year improvements for the employment and career positions for Henley graduates – now number 15 in the world (3 in UK) for the percentage of students employed within three months of graduation.
Rankings news

A supplementary note on the systemic importance of collateral and the role of the repo market

10 May 2013
A new supplementary paper from the ICMA’s European Repo Council, written by Richard Comotto, explains the importance of collateral to the stability and efficiency of the financial system. The paper highlights how the proposed Financial Transaction Tax (FTT) would impact the movement of collateral, posing significant systemic risks and interrupting the flow of money between banks, to governments and to the real economy.