Paying Up: The Hidden Cost of Portfolio Management

Abstract

Brokerage commissions over and above the cost of pure execution can be viewed as an indirect fee to investment managers. This fee is not visible and gets absorbed in the performance of the portfolio. Arrangements like this may cause investment managers to trade more through brokers that provide additional services than through execution-only brokers, which may not necessarily be in the best interest of the investor. An unbundling of research and execution costs should result in a more efficient allocation of resources, as well as add transparency to the investment management process. Commission recapture suggests that commission dollars are being used inefficiently, which strengthens the case for differentiating research and execution costs. Plan sponsors must be careful in setting up such programs, as the recaptured commissions in a poorly structured program can be easily offset by invisible costs related to market impact and delayed execution.