May 10, 2021 | The Big Suck

Okay, go check your latest RRSP statement. If you see these three letters – DSC – written after the name of a security some dude sold you, you’re in jail. It’s the Mutual Fund Prison, designed to prevent people from doing what they should – which is breaking out.

Once upon a time mutuals were new, innovative and a whole lot better than trying to pick a few stocks based on your crazy BIL’s hot tips. Fund companies created these assets which allowed retail investors to have a broad (and useful) diversification, and also benefit from the skill and experience of a fund manager. It was his/her job to buy/sell assets and make you money. But in return for doing that they also needed a nice house, a cottage and a Porsche. So funds came with big fees – especially when they held assets like stocks (as opposed to, say, bonds).

Mutual funds swept the industry in the Eighties, Nineties & Aughts with companies like Investor’s Group growing fat on the spoils. During those years of high inflation, economic growth and robust markets, the funds gave good returns, so investing shmucks hardly noticed the 2% or 3% MERs (fees are disguised under the term ‘management expense ratios’). But people did notice the upfront charges also paid to the fund salesguy (disguised as an ‘advisor’), and balked. So the industry came up with a ‘back load’ solution. Yup, the DSC.

The ‘deferred sales charge’ revolutionized things for the fund companies for two big reasons. First, by removing the upfront charge and burying the MER this made the investment look like it was almost free. Second, by creating a back-end charge no investor would be happy paying, which lasted seven years, it locked people into funds even when they were pooches and deserved dumping.

Here’s a typical DSC schedule. Take a gander at the giant money-suck for exiting in the first year or three. Ouch…

Now it’s worth understanding how much is involved here, and who the DSC victims typically are. The Mutual Funds Dealers Association is made up of fund companies plus advisors licensed to sell those assets, and currently oversees $700 billion in client funds. Over 9,000,000 households have mutual funds (more than half the country) and it’s estimated a quarter of this money is DSC. Most alarming is this: 83% of these households, the MFDA admits, have less than $100,000 in financial assets.

That suggests victimization. The people with the least are paying the most. Salespeople who traditionally flog high-cost mutual funds and are paid by trailer fees or front-end charges are in an inherent conflict of interest position. Did they recommend a fund purchase because it was the right choice for a low-net-worth household, or because they get a hefty fee? Then imagine the worry and stress of people discovering they can’t quit a fund because it disappointed or they simply need the money – without paying an outrageous DSC. Is this predatory? Do we wonder why so many people distrust the financial business?

Well, maybe you heard the good news Friday. The Ontario Securities Commish has finally relented and will ban deferred sales chares on all new fund sales – but not for a year. The OSC was a holdout after other Canadian regulators suggested two years ago that these blood-sucking charges be offed. But, better late than never. Now it’s national.

The change will give more transparency to the industry. Investors will gain more flexibility. Sales people masquerading as financial experts will have to find a more honest way of making a living. Become realtors? It’s just a shame this is a year away and that all existing DSCs won’t be nuked.

By the way, not all funds come with this structure. Some are low-fee and some pay advisors nothing – but most mutuals aren’t cheap. Read the prospectus. Better yet, buy ETFs.

Exchange-traded funds have two big advantages: they trade on the markets (like stocks) and can be bought or sold with the click of a mouse. More liquidity means more security. Second, they’re incredibly cheap. And getting cheaper. Embedded fees are miniscule compared to mutual funds, often less than one-tenth of one percent. That’s because most ETFs don’t have suspender-snapping 911-driving portfolio managers, but operate as passive index funds. The good news is that 90% of managers don’t beat the market, anyway.

So what does a good advisor do?

Sell you nothing. Take not a nickel in commission – from any asset, fund company, insurance provider nor any other third-party. Rather this person should build a low-cost, liquid and  balanced portfolio of the right combo of ETFs, guide you in avoiding (not evading) taxes, ensure a good mix between real estate, retirement funds, kids’ resources, mad money and help you craft a long-term strategy for financial security. A holistic approach. For that you pay a small monthly fee. Often tax-deductible. No back-end charges. No imprisonment. No conflict. And, no, TNL@TB doesn’t do this. Nor do robos. And Investors Group is gone. Now it’s IG Wealth Management.

But we know.

Garth Turner May 10th, 2021

Posted In: The Greater Fool

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