I was asked last week to do a media interview on investment fees. I agreed to do it because the fee landscape is particularly interesting right now. Investors have an increasing array of options as to how they invest and what they pay.
I also did it because fees matter. Paying an extra one per cent is a big deal in an environment where interest rates are one to three per cent. For example, $100,000 that earns a gross return of six per cent over 20 years builds to $265,000 at a one per cent fee but only $220,000 at two per cent. Vanguard has it right when they refer to fees as “lost return.”
Unfortunately, the trends in wealth management fees are not easily defined. As I told the reporter, there are cross currents — some are bringing costs down, while others are pushing them up. To explain, I’ll break it down into two parts — products and distribution.
The emergence of exchange-traded funds (ETFs) has had a positive influence, with management expense ratios (MERs) as low as 1/10thof a per cent for broad-market index funds (S&P/TSX, S&P 500). ETFs have particularly been a godsend for fixed-income investors who previously had few cost-effective ways to buy bonds.
ETFs are not yet a big part of Canadian portfolios, but their low fees are setting the tone. Indeed, I’m happy to report that there’s been a decrease in mutual fund fees over the last decade. The moves haven’t been substantial and have favoured larger clients (through increased use of premium pricing), but the direction is right. And importantly, fees have become a bigger differentiator, as lower-priced funds are garnering most of the new money.
Slowing the progress, however, is the growth of more exotic products such as liquid alternative funds which charge a base fee plus a performance fee (the manager receives 10 to 20 per cent of the return). These funds, along with structured products like index-linked notes and principal protected notes, are considerably more expensive than ETFs and conventional mutual funds. Also, the fees on segregated funds, which are essentially mutual funds with insurance features added, remain extremely high.
On the distribution side, fee trends are also a mixed bag. There are more low-cost options today, but investors looking for personal service and advice are paying as much or more than ever.
For those who can do it themselves, there’s a plethora of options. Discount brokers compete vigorously on trading commissions and are offering more on-line education and tools. For those who need a little help, there are a number of robo-advisors to choose from.
There used to be more competition from direct-to-client mutual fund companies, which provide investment management and advice (the space where my firm operates). Unfortunately, this low-cost category has been hollowed out by mergers and strategic repositioning (higher minimums), such that there are few players left.
On the higher end of the service spectrum, there’s been a lot of change but little fee relief. Most brokerage firms are moving clients from commission-based accounts to ones that charge an annual fee based on assets. These fee-based accounts have less inherent conflicts of interest (advisors don’t need to trade to get paid), and they’ve opened clients up to non-commission products such as ETFs.
Unfortunately, this shift has led to many investors paying more for a comparable service because the annual fee is considerably higher (1.25 – 1.75 per cent plus tax) than what they previously paid in trading commissions and trailer fees.
There are other costs to consider including administration and transfer fees, and of course, taxes eat into returns on non-registered accounts. But the biggest loss of return, which isn’t shown on any account statement or tax form, has not changed.
I’m referring to investors’ habits and behaviour. Not having a plan or target asset mix can be very expensive, as can delays getting money invested and hyper-active trading.
My message to the reporter was that the wealth management industry hasn’t done enough to reduce costs. That shouldn’t stop you, however, from asking your provider how they can increase your returns by reducing your costs. Hopefully, you’ll get a clear and helpful answer. If all you get is squirming and obfuscation, then you, like the industry, have more work to do.
Tom Bradley is President of Steadyhand Investment Funds, a company that offers individual investors low-fee investment funds and clear-cut advice. He can be reached at[email protected]