My Own Advisor

For decades, mutual funds have been a hugely popular way for Joe or Jane Canadian to own pieces of companies.  For years, I thought this was a great way to invest too.

Many investors still believe in this route and I can understand why:

• Mutual funds provide instant diversification.   Many people don’t have the cash to invest individually in a large number of companies so a mutual fund allows investors to own  positions in a bunch of companies.  If a few of these companies don’t do well, no problem, the rest in the fund should offset poor performers.
• Mutual funds provide professional money management services.  Many people don’t have the time, energy or desire to research good stocks, when to buy them, where to hold them, etc. so professionally managed money helps people in this regard. Time has always been precious in our busy world.
• Mutual funds provide liquidity.  Many people, probably everyone at some point, invariably find themselves in some financial emergency and need money for something.  Shares of mutual funds can be easily sold; especially if you kept your funds outside an RRSP.
• Some mutual funds can be very inexpensive to buy.  No-load mutual funds exist.  These funds don’t charge any fees to buy or sell units but they do have operating expenses.

I could go on about the merits of mutual funds but the last point above is really why I left “the industry”.   The costs and fees were too much and occurred too often for me.  What was too much?  I was spending at least 2% of my hard earned money in fees.  This is money I would never see again.

Here are some examples of mutual funds fees I incurred at some point or another during my early investment years, before I became My Own Advisor:

• Load charges to buy the funds in the first place.  Basically, you’re paying to get into the game.  These are called front-end loads and some funds have historically charged up to 7% for this – that’s $700 for every $10,000 invested folks!   I
  never paid this much but I did pay-in to get-in once; about 3%  Never again.  Before I played this game I should have known the rules; investors can negotiate the front-end fees of some funds.  We all know what hindsight is…
• Back-end loads to sell the funds.  Variations of this may be called exit or redemption fees or deferred sales charges (DSCs).  Basically, you’re paying to get out of the game.  These fees are charged to get out of the fund and are levied only on the amount invested, not on any reinvestments of dividends or capital gains or appreciation on the fund units.  They’re usually based on a sliding scale that disappears over time. For example, there may be a 5% back-end DSC fee to sell the fund in the first year but that fee may be reduced by 1% each year.  Thus, if the fund is held more than five years, there’s no fee to sell.  Lucky us.  Investors should know these fees are not negotiable – at least they weren’t in my case.
• Expenses that the fund incurs during operations. Operating fees to cover amounts paid to fund managers and expenses of buying and selling the fund shares.  Operating fees and management expense ratios (MERs) can range dramatically.  I recall Canadian Capitalist did a good post about this a couple of years ago, how much Joe or Jill Canadian willingly spend on mutual fund fees.

Simply stated, Joe or Jane Canadian fork out lots of money, some of the highest mutual fund fees in the world, to own pieces of companies.  I can’t blame them.  For years I didn’t know any better either.  I guess this wouldn’t be so bad if you owned mutual funds that always outperformed their index or consistently beat all its peers, however my own decade-long experience with mutual funds (in my 20′s and my early 30′s) and a boat load of research suggests these events are more rare than any steak you’ll ever order.  Last year, the Globe & Mail had a very good article on this topic.

What’s more, those few mutual funds that do beat their index typically aren’t the same funds that do it again over the next 10-year term.  I don’t know about you, but I don’t have time to find needles in haystacks.  Besides, even if you find your needle you’re going to get pricked by it with fees!  Let me show you just one example.

The Investor Education Fund website has an excellent mutual fund impact fee calculator that drives home this point.  Unfortunately it took me almost a decade to understand what this calculator showed me  in seconds but experience nonetheless is a valuable teacher.   Anyhow, I used the calculator to estimate the total fees paid to invest $25,000 in the RBC Canadian Equity Fund over 10 years.  My results were not surprising based on what I know now but the math is profound all the same:  it would have cost just under $6,400 to buy and hold this Equity Fund.

By comparison, using the same calculator; investing the same amount ($25,000), over the same time period (10 years) and instead of choosing the Equity Fund I choose the RBC Canadian Index Fund, I would have saved a bunch of cash.  Even though the Equity Fund did manage to beat its index now and then over the years, it never did so by leaps and bounds.  I would have saved about $4,000 or I could have reinvested that money over time.   Over a 20-year time period, the math balloons to over $17,000!  That’s not chump change.  Thankfully I didn’t wait that long to get out of mutual funds.  Remember readers, fees are forever.

If your goal when buying an actively managed investment product is to beat the index, I wish you luck, lots of it.  I hope you find that needle amongst the hay.  If your goal is to simply get market returns, I suggest you get a broad-market index product and be happy with that.  You’ll keep much more of your hard earned money and you’ll get returns close to any of the top-flight mutual funds of the given day.  Win-win.

In closing, I stopped being Joe Canadian and left the mutual fund industry a couple of years ago because I was tired of paying the fees that impinged on my portfolio growth.  I gave up searching and hoping to find that proverbial needle in the mutual fund haystack.  Even if I found this gem of a fund, it wouldn’t have been a painless journey so I’ve learned.  I would have been pricked by the process of pesky mutual fund operating costs and fees for as long as I owned the product.   Like your annual visit to the doctor’s office for a check up, who wants these pokes in the arm year after year after year?

Did you leave mutual funds for the same reasons I did?

Did you ever own them in the first place?

Thanks for reading and sharing this article.