Tuesday, October 28, 2008

New Rules for Mutual Fund Disclosure

A group of regulators of the Canadian mutual fund industry have come up with a proposed new set of rules for disclosing information to potential investors using mutual fund fact sheets.

Don’t look for any big differences to help investors understand what is going on. These fact sheets don’t even have to include a fund’s trading costs. As explained in an Ontario Securities Commission article Understanding Mutual Fund Fees, “brokerage charges, which are the fund’s cost of buying and selling securities in its investment portfolio, are paid by the fund but are not included in the MER.” These costs are buried in other disclosure documents as a Trading Expense Ratio (TER).

To those of us who have an interest in financial details, the disclosures about fees in the fact sheets seem clear enough. But, I doubt that the average investor could make a meaningful connection between this information and actual fees paid. When friends and family show me their account statements, they are usually shocked when I tell them how much they pay in fees.

Simple New Type of Disclosure

A problem with the fact sheets is that they are disconnected from the purchase of units in a fund. Whenever an investor buys units of a mutual fund, there is some piece of paper or browser screen that shows how much the investor pays for the units in the fund. I’d like to see two additional numbers related to fees written beside the transaction information: assuming that the units are held for 10 years, what will be the total amount charged in fees, and how much of this goes to the advisor.

Let’s try an example. An investor decides to move his $50,000 RRSP into the biggest Canadian mutual fund that will take an investment of this size, Investors Dividend-A. This fund’s MER plus its trading expense ratio comes to 2.70% per year. According to the fund’s prospectus, advisors get 4.10% of the sale plus an additional trailer of 0.63% per year.

To avoid the problem of assuming rates of return and calculating present values, we’ll calculate fees assuming that the investment stays at a constant $50,000. Here is what our investor would see if this idea were adopted:

Investors Dividend-A fund unit price: $18.60
Units purchased: 2688.17
Total Cost: $50,000
Estimated total fees charged during 10 years in this fund: $13,500
Out of these total fees, estimated payments going to your advisor: $5200

This type of disclosure concerning mutual fund fees would be much easier for investors to understand than the information in fact sheets. It might cause investors to ask questions about fees and even do some comparison shopping.


  1. Easier for the investor? I do not believe that is the goal of these reports, it is to confuse, bamboozle and possibly obfuscate, but making it easy to read is right after "and solve world hunger" on the Mutual Fund Managers minds (In my opinion).

  2. Preet: I poked around on Ken Kivenko's site for a while. It has some good information. In particular his claim in the ABCP write-up that "victims were not chasing returns" could have applied to me about 10 years ago. I owed a fairly large sum in taxes to be paid the next April and wanted to put it into government bonds. A pleasant voice at my discount broker suggested commercial paper instead to make an extra 20 basis points or so. Chasing an extra $500 in interest could have cost me my house.

  3. Thicken: You're right that the motivation is to avoid showing that funds usually underperform appropriate benchmarks. It's just too easy to argue that it is difficult to choose the right blend of benchmarks to compare to a given fund. That's why I think it makes sense to attack the reason for underperformance directly: fees. Having to list an estimate of 10 years worth of fees would make most investors stop and think.

    1. The comment above is a response to Thicken My Wallet's comment:

      What strikes me as interesting about the entire report is the refusal to take up the suggestion that disclosure include a comparison of the funds against benchmarks; such refusal based on the principles of "simplicity."

      ...isn't it more like, god forbid people actual know how most funds under-perform the leading benchmarks!