GLOBAL - Pension funds' focus on alpha could have caused a 50% increase in active manager fees in five years, according to Watson Wyatt.
Paul Trickett, European head of investment consulting, Watson Wyatt, said: "One of the main reasons for this upward cost spiral is investors' focus on 'alpha', which has increased their appetite for alternative assets.
"Investors have naturally assumed that they are paying these fees to reward manager skill, but in many cases they are wrong."
Watson Wyatt found pension funds had been paying alpha fees for the improved beta recent strong markets had produced and identified some areas where investors were losing out.
Annual performance fees were criticised as they remained uncapped on the upside but the pension fund would still have to pay if a manager underperformed.
Also the consultants objected to the fees paid on assets held in cash until actually being invested.
Watson Wyatt recommended fees should never account for more than 50% of alpha and these costs should be formally included in funds' risk budgets.
The firm did not advocate a standardisation of fee structures due to the increasingly diversity in investment strategies and mandates.
Trickett commented: "There are signs of change as we move into a different market environment where many managers will no longer be able to justify their charges without beta to bail them out.
"In future, active managers that wish to win pension fund money will need to offer them a fairer deal."
UK inflation unexpectedly rose to 2.7% in August, beating analysts' expectations of a drop to 2.4% from 2.5% the previous month.
The Pensions Advisory Service (TPAS) helped 187,000 people in 2017/18, a 9% fall on the previous year despite setting up special helplines for specific scheme members.
The Liberal Democrat party has passed a motion pledging to cap tax-free lump sums under Freedom of Choice at £40,000 if elected into government.