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Building a safer portfolio with ‘guaranteed’ funds

Thursday, April 14, 2011

When I started in the business with Investor’s Group 16 years ago, there wasn’t much choice when it came down to protecting clients’ portfolios on the downside. There were guaranteed investment certificates (GICs) and Canada Savings Bonds (CSBs), but little else, unless you wished to venture into segregated funds that often came with high MERs or annuities, which were safe but provided little opportunity for any growth.

The problem with GICs and CSBs is twofold. First, as interest rates fall, you are likely to be in a loss position when taxes and inflation are considered. Second, these investment vehicles offer no upside if markets perform well. They offer only downside protection.

Mutual fund companies have been very innovative in creating new classes of tax-efficient funds. Capital “class” (also known as “corporate class”) funds, for example, save unitholders from paying tax on capital gains incurred on switches between funds. “T-series” funds make monthly income payments (in non-registred plans) to unitholders more tax efficiently through non-taxable return of income and interest/dividends.

In 2005, IA Clarington Investments Inc. launched a product called Target Click, which essentially not only guarantees your principal (if held to maturity) but also guarantees the highest month-ending series net asset value per unit during the period from the start date of the Fund until the maturity date of the Fund or the series net asset value per unit on the maturity date of the Fund (this is called the “Guaranteed Value”).

This gives the unitholder a guarantee on principal plus the highest month-end value (if held until maturity). Investors are not locked in until maturity. Like any other mutual fund, you can sell anytime and accept the gain or loss at that time. Holding until maturity is important only if you wish to receive the guaranteed amount.

IA Clarington has been aggressive in marketing this investment vehicle, and the various series have accumulated substantial assets.

BMO Guardian Funds has a similar product launched in 2008 called BMO Guardian LifeStage Plus Series that works in the same fashion. This product hasn’t been marketed very aggressively, and assets under administration are still quite low. BMO currently seems to be putting more focus on its ETF line-up.

Higher costs

The MERs are a little higher on the guaranteed offerings, but I still feel that it’s a fair price to pay for security with some market potential. Keep in mind that when markets have a great year, guaranteed product returns will lag the markets, because they are a conservative investment vehicle.

For example, IA Clarington Target Click’s MERs range from 2.38% to 2.92%, while BMO LifeStage Plus MERs range from 1.57% to 2.73%. Similarly, Fidelity Investments' Clearpath product (similar offering but with no guarantees) has MERs that range from 2.10% to 2.20%, while the MERs for Invesco Trimark's Intactive (similar offering but with no guarantees) range from 2.19% to 2.23%.

Are they for you?

If you have a defined benefit pension plan through your employer, you will have much of your retirement needs already guaranteed. In addition, CPP and OAS are also guaranteed for everyone. Thus, you probably wouldn’t need this type of guaranteed investment unless you are risk-averse and find comfort in GICs and other similar types of investments.

I encourage my clients who do not have a defined benefit pension plan to look at these types of investment offerings for a portion of their portfolio as a way to stay in the market with less worry, because they offer a measure of downside protection in poor markets.

Let’s face it. There are always many negative factors that could derail market growth. Currently we have the Japanese tragedy, European sovereign debt problems, U.S. fiscal deficits and debt, problems with the U.S. economy and housing, as well as upheavals in North Africa and the Middle East.

There are some offsetting positive stories, too, but my point is to highlight the fact that negative stories often get more attention, because bad news captivates people. Trouble is, many people tend to act on what they read in the headlines, and wind up holding cash just when markets are advancing, missing much of the upswing due to fear. Guaranteed mutual funds may offer a way to alleviate that fear and stop you from acting on emotion.

Because these vehicles have additional features, guarantees, and conditions, you should consult your financial advisor to see whether this type of investment vehicle would be suitable for you.



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.