Assets Under Management (AUM) refers to the total market value of the investments that a financial advisor or asset management firm manages on behalf of their clients.
This metric helps you understand the scale and scope of a financial entity's operations. AUM can include many investment vehicles, such as stocks, bonds, real estate, and other securities.
How is AUM Calculated?
The AUM is typically calculated by aggregating the fair market value of all the assets the financial advisor or firm has the authority to manage. This can include a diverse range of investment products, including stocks, bonds, mutual funds, etfs, cash equivalents, and more.
The calculation might be done at a specific point in time, reflecting the current valuation, or as an average over a specified period, such as quarterly or annually.
Significance of AUM
The amount of assets under management can serve as a gauge of the size and success of a financial advisor or management firm.
Generally, higher AUM indicates a larger base of client trust and a broader scope of financial activities.
AUM is often linked to the fee structure of financial services firms; advisory fees are frequently charged as a percentage of AUM. This fee model motivates advisors to increase the assets under management either by enhancing portfolio performance or by attracting additional client funds.
Impact of AUM on Fee Structures
AUM may affect how financial advisors and asset managers charge for their services. The AUM fee model, typically a percentage fee, arguably aligns the interests of the advisor and the client as the advisor benefits from the growth in the client's assets.
Depending on the firm, different clients might be charged different AUM fees. Institutional investors are often able to negotiate lower fees than retail investors because of the size of their portfolio. A bigger portfolio does not necessarily translate to paying higher AUM fees. In fact, usually as a portfolio gets bigger, the AUM fees decrease.
Clients should be aware of how these fees accumulate, as they can significantly impact investment returns over time.
Example of AUM
Let's consider a hypothetical example to illustrate how assets under management (AUM) works in a practical context:
Hypothetical Financial Advisory Firm: Elite Investments
Overview:
Elite Investments is a financial advisory firm that manages a variety of investment portfolios on behalf of individual investors, corporate clients, and institutional stakeholders. The firm's services include financial planning, portfolio management, and investment advice.
Calculation of AUM:
Client 1: An individual investor with a diversified portfolio including stocks, bonds, and mutual funds valued at $500,000.
Client 2: A small business with investment assets including corporate bonds and equity stakes in other businesses, totaling $2 million.
Client 3: An institutional client, such as a pension fund, with a mix of real estate investments, stocks, and bonds valued at $10 million.
Total AUM:
To calculate the total AUM for Elite Investments, you would add up the asset values from all clients:
- AUM = $500,000 (Client 1) + $2,000,000 (Client 2) + $10,000,000 (Client 3) = $12,500,000
Fee Structure Based on AUM:
Elite Investments charges a fee based on a percentage of AUM for each client they manage. Suppose they charge a 1% annual management fee. The annual fees calculated on each client's total AUM would be:
- Client #1 Annual Fee = 1% of $500,00 = $5,000
- Client #2 Annual Fee = 1% of $2 million = $20,000
- Client #3 Annual Fee 1% of $10 million = $100,000
AUM fees are typically charged yearly, quarterly, or monthly, and it is calculated based on the average daily balance of the assets under management during the period.
What Is the Average Fee for AUM?
The average AUM fee typically ranges from 0.5% to 2% annually, depending on the total assets managed, the complexity of the services provided, and the firm's prestige.
Smaller portfolios often face higher percentage fees, while larger accounts might benefit from scaled rates, decreasing as assets increase.
What Does an Asset Management Fee Cover?
An asset management fee is a charge that clients pay to financial advisors or investment firms for managing their investment portfolios. This fee generally covers a range of services essential for effective asset management. These include:
Portfolio Management: Creating and maintaining a diversified investment portfolio tailored to the client’s risk tolerance and financial goals.
Financial Planning: Offering strategic advice on achieving financial objectives, including retirement planning, tax strategies, and estate planning.
Investment Research: Analyzing market trends, performing asset valuation, and selecting suitable investments.
Risk Management: Continuously assessing and mitigating potential financial risks to the portfolio.
Regular Reporting: Providing clients with detailed performance reports and updates on their investments.
Personal Consultation: Offering ongoing, personalized consultations to address clients' changing financial needs and circumstances.
This fee is typically calculated as a percentage of the assets under management (AUM), incentivizing advisors to focus on both asset growth and sustained client satisfaction.
What Qualifies as Assets Under Management?
Assets under management (AUM) includes all the financial assets a financial advisor or firm manages on behalf of their clients.
These assets typically include stocks, bonds, mutual funds, real estate holdings, and other investable assets. AUM can also extend to cash, bank deposits, and uninvested money that the advisor has the authority to invest.
The total value of these assets reflects the scope of responsibility and financial stewardship the advisor or firm holds.
Flat Fee vs. AUM Fee: Understanding the Differences
Flat Fee:
Definition: A flat fee is a predetermined amount charged by a financial advisor regardless of the size of the client's assets. This fee is typically set as an annual or monthly rate.
Benefits: Transparency and predictability in costs, which can be appealing for budgeting. It avoids potential conflicts of interest because the fee does not vary with the amount of assets managed or the frequency of transactions.
Considerations: May be more cost-effective for larger portfolios, as the fee does not increase with the size of the assets.
AUM Fee:
Definition: An AUM fee, or assets under management fee, is charged as a percentage of the total assets a financial advisor manages for a client. Common rates range from 0.5% to 1.5% per year. These may also be called “investment advisory fees” or “management fees.”
Benefits: Aligns the interests of the advisor and client, as the advisor's compensation increases with the growth of the client's assets. This can motivate advisors to focus on maximizing portfolio performance.
Considerations: Can be more expensive over the long run. There may be a perceived conflict of interest, as the advisor could favor actions that increase AUM rather than those that are necessarily best for the client.
Choosing the Right Model
Selecting between a flat fee and an AUM fee model depends on personal financial situations, investment goals, and preferences regarding fee structure transparency. Investors should consider their portfolio size, the complexity of their financial needs, and how they prefer their advisor to be incentivized.
Both fee structures have their merits, and the choice often boils down to the individual's financial circumstances and the level of services required.
What Businesses Should Know About 401(k) Fees
While a 0.5-1% fee may seem like a small amount, it can have a big impact on an individuals ability to save for retirement in the long run.
It can sometimes be difficult for employers and their employees to understand all the different fees attached with a 401(k) plan. While the IRS requires investment firms to publish their fees, it can take some digging to find them in a plan’s prospectus.
As a business owner and plan sponsor, it’s important to help your employees understand the benefits of having a 401(k) plan as well as what it will truly cost them.
Not all 401(k) plans charge AUM fees. At Penelope, we are transparent in our fee structure, and we don’t charge AUM fees to employees. As a result, they can save even more for retirement. Choose a Starter 401(k) or Safe Harbor plan. Find out about the best options for you: speak to one of our experts.
