The Right Kind of Fee Arrangement for Your Private Banking

Our number one advice to private banking clients is to negotiate harder with their private bank as experience shows that usually negotiation can bring down fees by one third to one half. However, this does not answer for exactly what kind of fee arrangement a private banking client should ask the bank. Our study on Germany discovered that almost 70% of clients pay transaction fees and 54% pay flat fees (some surveyed private banking clients paid more than one type of fees). But the study also found that 13% of clients paid performance-based fees and 7% compensate their wealth managers or private bankers with hourly fees. 

The fee arrangement can have a strong impact on the performance, risk or costs of a portfolio. Therefore, the private banking client should be very careful when choosing the type of fees. First of all it is important to know that most private banks and wealth managers are quite flexible. They offer different mandates that come with different fee structures. Usually, the private bank will also accommodate the specific preferences of the client when he or she brings substantial assets to the bank (usually USD 5 m or more). 

Whatever fee structure a private banking client uses, he or she should make sure that the private bank or wealth manager does not receive kickbacks (commissions) for the products the client invests in. At least, the private banking client should make sure to get comprehensive information on the product fees (internal fees of funds or structured products) and the commissions the private bank has received. If this is not possible, the client can ask the bank to exclude all commission-carrying products from the portfolio and invest only in cheap products like ETFs or ETNs. Let’s have a more detailed look at the various fee types:

• Transaction fees: The central element of this pricing model is the individual billing of every single transaction to the private banking client. Usually he will pay a percentage of the transaction volume every time he buys or sells an asset. Irrespective of the transaction volume is a “ticket fee”, which is often charged as a fixed sum every time a transaction occurs. This pricing model is advantageous for clients with a limited and foreseeable number of transactions. They should also be able to keep a close look on their portfolio, to monitor whether unnecessary transactions are executed. We have seen many cases where this kind of fee arrangement motivated the private banker to trade heavily and generate equally heavy fees.
  

•  “Flat-fee”: This pricing model offers a “flat-fee” which either covers all costs for the management of the portfolio or for all transactions or both. Usually, “flat-fees” are calculated as a yearly percentage of the total investment amount. Pricing models offering a comprehensive “flat-fee”, covering the management of the portfolio and all costs for custody and transactions, are usually labeled “all-in-fees”. Not included are ticket-fees and various hidden costs, such as the whole range of product-fees. These “all-in-fees” can vary significantly. The main disadvantage is that the private bank receives a fixed, usually significant amount, from the private banking client event if they have done nothing for the client.
  

• Performance fees: Performance-fees are based on the profit the wealth manager or private banker generates with your portfolio, and are calculated as a percentage of the overall performance. He will often receive kickbacks on top of the performance-fees. Often a “high water mark” is introduced, requiring that performance fees will only be charged after losses of preceding years are recovered. The advantage for the private banking client is that he only pays the wealth manager once a positive return over a certain threshold has been reached. The problem is to distinguish between the performance of the wealth manager and the overall development of the markets. The main risk of a performance-fee model is that the wealth manager or private banker takes on too risky investments and potentially violates the long term objectives of the private banking client.

• Hourly (time-based) fees: This is a fee-model also used to compensate lawyers or other professionals. Usually the hourly fee of a wealth manager is somewhere between USD 100 to 300 per hour depending on the competence and experience of the adviser as well as the complexity of the portfolio. Typically, smaller independent wealth management firms (not part of a large bank) are more inclined to offer such a fee arrangement as they do not have big overhead to pay for. However, over the last years more and more private banks are offering a time-based fee model. The main advantage for the private banking client is that the adviser does actually work for the fees and is accountable to the client. The potential downside is that the adviser may do a lot of unnecessary work and push up the fees. Inexperienced private banking clients may not have the know-how to differentiate between critical and redundant work.
  

In summary, the more experienced private banking client who is managing the portfolio him- or herself should go for a transaction-based fee model whereas the less experienced client is better off choosing an hourly model or a flat fee. Only for portfolios with clearly defined risk-reward-profiles a performance-based model makes sense.