GLOBAL - A senior figure on the global asset management industry predicts that performance fees will replace flat fees within two years.

Bob Parker, deputy chairman of Credit Suisse Asset Management, told IPE: “We are seeing a clear trend towards performance fees and flat fees across the whole industry are coming under pressure.”

Parker said ‘step up’ performance fees were the most likely option. “Step up fees mean that if you perform to the benchmark you get a small administration fee and but no performance fee.

“But if you have achieved between zero and say 1% of the agreed target then you would get a performance fee of X basis points. Between 1% and 2% you might get X plus basis points.

“I think that step up fees will become the industry norm in a reasonably short space of time, say one to two years.”

Parker said step up fees were preferable to hedge fund performance fees, where the manager takes a large percentage of the excess return:

“There are some real risks loaded into hedge fund type performance fees because obviously managers are encouraged to take more risk. The more risk they take the greater the probability of a higher return and a higher percentage fee.

“The problem with the hedge fund fees is that it’s difficult to reconcile a percentage performance fee with a risk budget. If step-ups are capped out, that’s consistent with the client setting a target and a risk budget.

Parker said the move to performance fees was inevitable as clients became more sensitive to good and bad results. “Clients quite rightly are saying they are prepared to pay a fee for value added, but if active managers are not adding value, they are asking why they should pay them a flat fee.

“Some clients are also negotiating contracts whereby asset managers are paid fees not just on the basis of performance but on the basis of fulfilling their administrative, legal and compliance duties. So if there is administrative mistake, there is a penalty.”

Parker said that the increasing use of performance and operating contracts was a logical development. However he ruled out the possibility of penalties for investment under performance:

“Symmetrical fee arrangements do exist, but I don’t see it becoming a norm because there is so much vested interest in the investment management industry to vote against it.”