As myself and our client portfolio management team have been meeting with potential new clients over the last few years, we've noticed more and more that F class mutual funds are making their way into the portfolios of high net worth clients with portfolio values over $1 million.
Firstly, I have no issue with mutual funds; our firm actively manages seven different private investment pools which are a type of mutual fund built for high net worth investors. We are also subadvisors of the CWB Onyx Mutual Funds through CWB Wealth Management. Mutual funds and private investment pools are an efficient way to invest capital especially in stock markets outside Canada.
Second, I have no issue with investors paying a reasonable management fee to get proactive investment advice, proper financial planning services, and competitive investment returns. Having a trusted and experienced advisor is critical, especially when investor emotion and market volatility are running high.
So what is the purpose of this blog? I wanted investors to be informed of the total portfolio cost when it comes to investing in F class mutual funds. Total portfolio cost means accounting for the management fees buried inside F class mutual funds that many people are unaware of, plus the management fees that are usually charged by the advisor on top of the fund holdings.
F class mutual funds are basically a regular mutual fund, except the advisor fee (or trailer fee as it is known in our industry) that the advisor gets paid from the mutual fund company is stripped out. A regular mutual fund might have an annual management fee of 2.00% (including a 1.00% trailer paid to the advisor), and the F class version of the same fund would only have an annual management fee of 1.00%. According to CIFSC, Canada’s leading standards committee for mutual funds, the average management fee inside the average F class fund is 0.98%. So when you have a traditional stock broker move to a discretionary platform at a brokerage firm (which has been an aggressive push by management at brokerage firms accross the country), the client can easily end up owning a basket of F class funds and also paying the advisor an annual management fee of 1.00% to 1.25%. Because the F class management fees are buried inside the fund, the client will only see the annual management fee that is paid to the advisor.
I have had numerous conversations with investors where they have well over $1 million dollars invested in F class funds, and when I ask them what they are paying each year for fees, they only quote the management fee paid to their advisor - completely unaware of the additional fees inside their F class holdings. For instance, if your advisor is only charging 0.50% and your F class funds charge 1.00%, then a total portfolio cost of 1.50% may be reasonable depending on the value and service provided, size of portfolio, and overall complexity of the portfolio allocation. The challenge is I very rarely see advisors willing to charge 0.25% to 0.50% on an F class portfolio.
Understanding the total portfolio costs and value for your fees is important. The table below gives a good example of how a 2.00% management fee vs. a 1.00% management fee can impact portfolio returns over a long time period. In the example we assume an investor has a portfolio of $1,000,000 and takes out $60,000/year ($30,000 at the start of the year and $30,000 at the mid-point of the year). We assume a 6.00% gross annual return. As you can see under the 2.00% management fee, the investor only has $92,364 dollars left vs. $415,779 for the investor paying 1.00% a year in total management fees! A HUGE difference that can impact one’s living standards and what they might want to leave behind for loved ones or charity.
I am a big believer of you get what you pay for. Proactive advice and planning is valuable; however, when it comes to your investment portfolio, be mindful of total portfolio costs, undisclosed F class fees, and the impact on your capital in the future.