Aug 14, 2019 — 12.00am, John Kehoe Senior Writer https://www.afr.com/companies/finan...-zero-commissions-for-brokers-20190813-p52gli Leading fund manager Magellan Financial Group will create market history by launching a listed investment trust (LIT) that pays no commissions to stockbrokers and financial advisers recommending the product to investors, as chairman Hamish Douglass said the Morrison government should consider capping commissions. The landmark move by the $90 billion global equities manager follows a series of reports in The Australian Financial Review about the surge in fund managers setting up listed investment companies (LICs) and LITs to pay conflicted commissions to exploit a loophole in the Future of Financial Advice (FOFA) laws. Magellan’s precedent to bypass a traditional broker syndicate will pressure the under-siege financial advice sector and may force fund managers to cut commissions paid to brokers and advisers who sell listed investment funds to mum and dad investors. Billionaire Mr Douglass told the Financial Review on Tuesday that the new ASX-listed Magellan High Conviction Trust would avoid "conflicted remuneration" by paying no fees or commissions to brokers or advisers when raising between $250 million and $3.5 billion from its 70,000 existing investors and the general public. “If you put a large enough commission in place that would cause the adviser to recommend to their client to take the product,” he said. “We’ve seen that happen in banks all over the world." “Some of these commissions have been up to 4 per cent and you would have to be silly to think that doesn’t change behaviour.” Concentrated portfolio The Magellan High Conviction Trust will invest in a concentrated portfolio of "high quality global companies" and aim to deliver investors a 3 per cent cash distribution each year. LICs and LITs are listed investment vehicles and their shares or units trade on the Australian Securities Exchange and provide permanent capital to fund managers. The LIC/LIT market has rapidly doubled to $45 billion since 2014 when the Coalition government watered down Labor’s Future of Financial Advice (FOFA) laws to allow advisers and brokers to resume receiving commissions for selling listed securities. FOFA was intended to end conflicted remuneration for financial advisers, but some advisers are receiving commissions, often between 1 and 3 per cent, to sell LICs and LITs to mum and dad investors. Mr Douglass said he “didn’t understand” why listed investment funds could still pay commissions under FOFA, when unlisted funds were banned from paying incentives to brokers and advisers. “I do think they need to look at this managed investment product,” Mr Douglass said. “Whether the regulator and politicians are going to step into looking at FOFA here, I know Josh Frydenberg has said they would look at it.” Mr Douglass employed Mr Frydenberg, now the federal Treasurer, when they both worked at Deutsche Bank in the mid 2000s. Mr Douglass suggested a commission cap could be a compromise, equivalent to a “fee for work but not large enough to influence the adviser”. “Maybe they cap the commission to an amount that is no more than what they would earn on a normal piece of brokerage advice, such as 50 basis points,” Mr Douglass said. New pressure Koda Capital chief executive Paul Heath, who advises clients on over $6 billion in assets and does not accept fees from fund managers, said he expected Magellan’s leadership to put pressure on other listed fund managers to remove “conflicts of interest that undermine trust in the advice industry”. “It will be interesting to see if the same adviser syndicates that have so heavily promoted LICs and LITs to their clients in the last 18 months get behind one that doesn’t pay them a commission,” Mr Heath said. There are several LIC and LIT raisings currently in the market. For example, the Partners Group Global Income Fund is undertaking a $450 million-plus capital raising for a new ASX-listed credit fund and offering commissions of up to 2.42 per cent to brokers such as Morgans Financial, National Australia Bank, Crestone Wealth Management, Evans Dixon, Ord Minnett, Wilsons and Bell Potter Securities. Mr Frydenberg said last month that he had asked Treasury and the Australian Securities and Investments Commission to "provide advice on the extent to which inappropriate advice is being provided in relation to LICs." Mr Frydenberg signalled he believed the existing "best interests duty" rule for financial advisers may be sufficient. ASIC wants the government to consider following through on the banking royal commission's recommendation to review if exemptions for conflicted remuneration remain justified. Exotic mix A key recommendation of royal commissioner Kenneth Hayne was that “there must be recognition that conflicts of interest and conflicts between duty and interest should be eliminated rather than managed." LICs in recent years have become more exotic beyond traditional listed shares to include hedge funds, private equity, direct loans and junk bonds. The number of LICs and LITs doubled to at least 114 over the past five years. More than half of LICs were trading at a discount of greater than 10 per cent of their pre-tax net tangible asset value as of June 30, according to a Financial Review analysis of Morningstar data. There has been some successful LICs such as the long-standing Australian Foundation Investment Company and Argo Investments. The 30 per cent share price collapse of Melbourne hedge fund L1 Capital’s $1.35 billion LIC and a rush by other fund managers to set up listed funds have triggered calls for regulators to crack down on advisers and brokers selling listed funds. Paid to buy in Magellan said its new listed trust would replicate the investment strategy of the existing unlisted Magellan High Conviction Fund, which has returned 16.6 per cent a year (including fees) to investors since inception in July 2013. "Magellan is proceeding with the offer without appointing a broker syndicate and is not paying any fees or commissions to brokers or advisers to handle the raising," Magellan said in a statement to the ASX. Magellan will in effect pay investors to buy in. Magellan's existing 70,000 investors will receive a priority offer and if they participate receive 7.5 per cent additional "loyalty" units in the Magellan High Conviction Trust. They can buy up to about $50,000 worth of the units. Wholesale investors and the general public can also buy in to the new Magellan LIT, and they will be eligible for an extra 2.5 per cent of units. Magellan will pay the one-off costs of these benefits, after completing an announced $275 million capital raising at $55.20 a share. Magellan will charge a 1.5 per cent per year management fee and a performance fee of 10 per cent of any outperformance over a single hurdle of 10 per cent a year total return after management fees. Mr Douglas committed to take up his priority offer and buy an additional $20 million worth of units in the wholesale offer. Brokers and advisers will still be able to recommend the Magellan product to their clients. Magellan's existing huge investor base and high-profile brand puts it in a unique position to eschew the established network of stockbrokers and financial advisers. Meanwhile, successful Sydney fund manager VGI Partners is currently seeking as much as $1 billion to set up a new Asian equities LIC. VGI will pay the brokerage cost on behalf of retail investors and offer free "alignment" shares in VGI the fund manager - worth almost 8 per cent - to its existing investors who buy in to the VGI Partners Asian Investments Limited or VG8.