Fees and pricing of MFO services
When UHNW is looking to partner with a multi-family office (MFO), they inevitably face a dilemma: whom to trust with my fortune and what is the fair cost of running my wealth. Therefore, we focus on the cost insight in this review.
A fair assumption would be to think that whatever cost is stated initially will be the one debited at the end of each quarter. Yet, it is quite different in real life.
MFOs play by the book as rational business actors in the investment world. As a starting point, you should approach them thinking that they are in the business of maximizing their returns first and your returns second. So here is how they do it. There are three revenue streams for a multi-family office:
1) Traditional services
2) In-house investment products
3) Rebates and retrocessions
Traditional MFO services
Traditional MFO services will cover strategic asset allocation, investment manager search and selection, detailed reporting, and risk control.
However, most of their efforts and attention will be given to you as an investor. They will spend hours talking to you as a good phycologist, trying to better understand your inner fears and desires in order to design an optimal investment strategy.
In exchange, they will price it in either fixed or variable terms:
1) Asset under Administration (AuA) – a pre-agreed fixed sum
2) Asset under Management (AuM) – % of assets
It exists an imaginary 100k line that is the minimum a typical MFO wants to get from a single client. For example, it shows a charge of 2% for 5M versus 0.2% for 50M. It helps to understand how pricing can change according to the AuM from high 2% to low 0.02%. No MFO wants to find their clients significantly below this line. We have reports showing that the MFO price is between 100k – 300k per year.
In-house MFO investments
Even though MFO started as a plausible alternative to private banks, they quickly got tempted by easy profits: in-house investment products. Undoubtedly, some of those offerings could be investors' best options. However, it always leads to the inevitable conflict of interests between MFO and its client: more internal products equals more revenue.
Cost on the internal product (e.g., active equity mandate from internal MFO manager) usually goes as a second fee layer mentioned in the previous section. When analyzing a typical MFO setup, we can observe up to 30% of the entire portfolio could be placed under in-house products. Of course, things are worse at the MFO coming up with an innovative structured production solution. After all, most MFO senior managers worked at large banks in their past careers.
A typical management fee of ~1% and 30% allocation to internal products will add 30 bps to the MFO's top line. So it is a tempting opportunity.
A wise investor would want to keep its MFO conflict-free and minimize its in-house products, even at the expense of potential perceived opportunity cost. It is unlikely that a highly-skilled investment manager will pick full-time employment at MFO versus going solo or joining a big name.
Retrocession and rebates
A good thing about MFOs is that they can deliver almost any service in investment through a vast network of partners. They have access to private deals, newly starting funds, closed hedge funds, and venture capital.
Even though new MIFID rules in Europe made it impossible for regulated investment products, the investment universe is full of private deals and unregulated investment mandates where retrocessions are flourishing. Things are worse outside of the EU in countries like Switzerland or the Middle East, where there is little protection against retrocession practices, even for regulated investment products.
Here are a couple of examples that we see in real life. A Swiss-based MFO advertises an investment to a newly created bond fund. Upon bringing 'start-up capital' to the fund, it receives a 50% retrocession from the fund's fee for a lifetime. Needless to say, these rebates are not passed to the final client, thus, creating a conflict of interest.
A good practice would be to oblige MFO to disclose all retrocessions before the relevant deal or avoid a deal with a retrocession fee structure altogether. It is also not a bad idea to ask them to disclose all retrocessions streams that have been received in the past.
Setting up governance for Multi-Family Office
Even though it may look as MFO is a bad partner due to inevitably arising conflicts of interest, it can play a vital role in building your wealth. We created a checklist that helps establish proper governance for a multi-family office. An ideal MFO should only be paid by its client and can easily recoup this cost via lower fees elsewhere.
✓ Target to pay above 100k line, but negotiate the fee as AuM growth
✓ Look to establish AuM based pricing, but capped at a predefined fixed sum
✓ Ensure full rebates disclose in the advisory agreement
✓ Minimize in-house investment products.
✓ Ask to provide clarity not only on returns, but also on cost of your investment strategy
GreenLock.io applies technology to continuously examine and analyse the investment fees landscape for the key geographies - Switzerland, UK and France. We invest our time and effort to inspect the shifts in the investment landscape and ensure our clients are best equipped to take advantage of those.