|The fund biz: the good, the bad, and the ugly
Friday, October 01,, 2010
The mutual fund industry does a lot very well, but there are
also a number of areas that need to be improved upon. But that
goes for any business, industry, or sector. The Canadian mutual
fund business is relatively small (compared with, say, the U.S.),
and the negatives and sore spots stand out prominently. For
many commentators, that makes a temptingly easy target. But
I think far too many offer a simplistically negative viewpoint,
unfairly demonizing the entire fund business along with the
various business models advisors use to serve their clientele.
So herewith my view of the industry, in what I hope is a more
balanced critique. Full disclosure: I make no bones about the
fact that I’m a financial advisor. And that, I think, gives
me a unique insight into the industry, warts and all.
• Most financial advisors (FAs) work hard on their clients’
behalf to ensure that the goals set out are attainable within
the confines of fluctuating markets and an industry that is
complex and constantly evolving with new investment solutions.
• Most FAs put their clients’ interest ahead of their own.
• Most FAs help clients achieve retirement goals and help them
invest tax efficiently through mutual fund corporations and
Tax-Free Savings Accounts (TFSAs).
• FAs do more than invest client assets. Most of us look at
cash flow, credit cards, debt (and how to reduce it), mortgages,
powers of attorney matters, help young adult children get into
investing for their future, and insurance needs, to name a few.
We keep clients on track and help them to buy/sell at the right
time. Too many people wish to buy/sell at the worst possible
time. We visit clients once a year (minimum) to keep abreast
of their lives, so we can give proper advice. This is a very
important aspect of what we do.
• Most fund companies are working to reduce management expense
ratios (MERs). Fidelity, CI, and Invesco Trimark are three that
come to mind that have reduced MERs in the past few years.
• We talk clients out of “investment deals” brought to them
by friends/co-workers that offer unrealistic returns (10% to
15% annually) or “guaranteed” results.
• Most FAs continually upgrade education and experience by going
to conferences and seminars.
• The best testament to FAs are the millions of Canadians we
have helped to retire, leading productive and meaningful lives
with the resources to do the things they want to do.
• Many fund companies still have MERs north of 2.6%, which
to my mind is unreasonable. This is one of the major points
that critics of the industry continually write about. And to
be sure, MERs must keep coming down. MERs need to be more tied
to the funds that investors buy. For example, one company has
a $1 billion fund with an MER of about 2.5% and a $50 million
fund with the same MER. There are many economies of scale that
should bring the MER of the larger fund down.
• FAs who continually sell deferred sales charge (DSC) funds
to clients. These funds essentially lock up client monies with
a fund company for six to seven years, and require investors
to pay management fees to access money or move to another fund
company. I think it’s reasonable for newer advisors to use DSC
as a tool to survive in the business while their clientele grows.
After all, if you can’t help your clients, you’re out of the
business. Some FAs who manage large amounts of money and who
have been in the business over 10 years use the DSC as a tool
to get more revenue out of clients. Having money locked up for
six to seven years isn’t to a client’s advantage.
• FAs who work part time in the business. They are doing a disservice
to their clients when they work part time, or as they wind down
their career and coast. Experience is great, but you need to
stay up to date with changes in the industry.
• Fund companies that create too many new funds (without downsizing
their current line-up) or add “flavour of the month” funds,
which they then often “consolidate” three to five years later
when performance begins to lag. More fund companies need to
examine their line-ups and eliminate most funds smaller than
$100 million unless they are experiencing positive cash in-flows.
If they add 10 new funds, they should eliminate a similar number.
• FAs who invest almost all their clients in the same investment
vehicles regardless of the differences in their age, finances,
risk tolerance, and goals. One couple who are both 50, but work
in positions that receive a great defined pension (teachers,
nurses, police, fire fighters, municipal, provincial, and federal
employees among others) require something quite different from
a couple of the same age who are both self-employed or don’t
receive work pensions.
• Writers who harp single-mindedly, almost obsessively, on industry
negatives. A corollary to this is a type of one-size-fits-all
mentality that often sets in. And this often devolves to cheerleading
for a single type of asset class or approach, such as exchange-traded
funds (ETFs), stocks, or self-directed plans. But these simply
don’t work for everybody. A client’s assets, age, financial
IQ, and the need for simplicity are just some of a host of factors
that determine which investments work best for what clients.
Focusing on a particular agenda, however well-intentioned, without
telling both sides of a story does investors a disservice.
• Clients who have an FA, but mostly don’t listen to his/her
advice. Listen to the experts, whether it’s your doctor, mechanic,
or plumber. That doesn’t mean you can’t question direction or
strategy, but if you listen to only 10% to 15% of your FA’s
recommendations, something is wrong in the relationship.
• Notorious FAs who deceive clients, invest in inappropriate
high-risk investments, and collectively give the industry a
black eye. Fortunately, most of the bad ones end up in jail,
but not before fleecing their unsuspecting “clients” – usually
family and friends – of millions. They’re called “confidence
men” for a reason.
• Fund companies that have MERs in excess of 3%.
• FAs who put clients in products that they don’t understand.
Having elderly clients with low financial IQs buying and selling
stocks repeatedly while the broker earns hefty commissions is
another example. As clients age, they need to begin simplifying
their affairs. I have seen clients who passed away leaving investments
at 10 different banks and mutual fund companies. It’s a mess
for the executors and heirs to sort out.
• FAs who have so many clients they don’t know them by name
and couldn’t recognize them in the street. I’ve met FAs who
have over 500 clients. Unless you’re very efficient, it’s difficult
to properly serve a clientele that large. As financial advisors,
we are obligated to know our clients (and any financial advisor
worth his or her salt understands that that takes more than
just filling out the mandatory “Know Your Client” form).
• FAs who convince clients to leverage (borrow money) to invest
without giving full disclosure of the potential downside risks
(a 30% market correction, for example, or loss of a job).They
show great charts showing 6% to 7% portfolio growth. But markets
never go up 6% to 7% per year. They go up 20%, up 15%, up 5%,
down 18%, down 9%, and so on. If you borrow to invest and experience
a big correction early on, it’ll take many years to get back
to your initial investment, while you continue to pay interest
on the original principal amount.
I have tried to give a balanced viewpoint of what I see happening
in the financial services industry. Like any business, there
are things to improve upon, but I believe that for the most
part, financial advisors and mutual fund companies play an important
role in helping Canadians reach their retirement and other important
Generic Mutual Fund Disclaimer
Commissions, trailing commissions, management fees and expenses
all may be associated with mutual fund investments. Please read the
simplified prospectus before investing. Mutual funds are not
guaranteed and are not covered by the Canada Deposit Insurance
Corporation or by any other government deposit insurer. There can be
no assurances that the fund will be able to maintain its net asset
value per security at a constant amount or that the full amount of
your investment in the fund will be returned to you. Fund values
change frequently and past performance may not be repeated.
Personal Opinions & Recommendations Disclaimer
The foregoing is for general information purposes only and is the
opinion of the writer. This information is not intended to provide
specific personalized advice including, without limitation,
investment, financial, legal, accounting or tax advice. However,
please call the author to discuss your particular circumstances.