There has been a lot of talk lately in the Canadian Financial Service sector about the hidden fees some companies charge for investing and saving money for the future. Quest Trade, an on-line investment broker, recently began running ads on national television in which an un-named financial advisor is handed a cheque, he glances at it, shoves it in his pocket and says; “this will cover my fee, now what did you want to invest?”.
The message this ad sends is clear, Financial Advisors are crooks who will pocket most of your hard earned money for themselves and leave you with very little. What the ad doesn’t say is that most Financial Advisors, myself included, actually charge no fee at all directly to their clients but instead make a commission off of the growth in your investment. In other words if the investment they recommend doesn’t perform, the Financial Advisor doesn’t get paid.
Let me go on the record right now and say that I’m a big fan of transparency and that hidden fees are bad. The reason Quest Trade and others have started running these ads is that as of January 1 all Mutual Fund investment statements produced in Canada are required to disclose all fees clearly and if available, show rates of return for the last 6 months, 1 year, 3 years and 5 years. Now that consumers are able to see clearly, right up front, the fees they are paying for various forms of investment management people have rightly begun asking what exactly they are paying for. And I think that’s a good thing and I welcome the conversation.
I’m speaking specifically about the Management Expense Ratio or MER of your investments. This is the percentage of your investment growth that the company keeps in order to cover their expenses, pay your advisor and make a profit. Think of it as the mark-up, or in this case the mark-down of the actual value of your investments that you pay for the convenience of having someone else manage your money.
The MER is not a new fee, it’s always been there fully disclosed in the investment prospectus your investment advisor is required to give you by law whenever you open an account. There has never really been anything “hidden” about it, it’s just that most people are just too busy to care and lazy investment advisors have tended not to talk about it much. Just like your car salesmen never told you what that shiny new minivan in your driveway really costs to build, investment advisors haven’t been telling you what your money has really returned before expenses.
When most investment advisors talk about returns and show you charts they are talking about them “net of fees”. There has never been anything untrue about the projections they make they just tend to leave out the details of how they are getting paid, and how the companies they work for are covering their expenses. And again, there is nothing “hidden” or shady about doing business that way the information has always been available for the asking, which is more than I can say for your average used car salesman.
So now that the law has changed and the MER is being displayed plainly on your investment statement what does it mean for you as an investing consumer?
Really, it shouldn’t mean a thing. If you have had an honest advisor, who has helped you make decisions in your best interest, given you realistic expectations and guided you through the process with a teacher’s heart, the fact that they have made a commission and the investment company they represent has made a little too shouldn’t concern you at all. Businesses exist to make money and businesses that exist to help people achieve their goals are no different. People are funny that way. We tend to forget that our bankers and investment advisors aren’t altruists, everyone has to eat, but that’s not to say you shouldn’t be informed of the amount of money you are paying these people and why.
Recent studies have shown that people who use a Financial Advisor to help them invest on average see 2.5 to 3 times the growth in assets as unadvised investors over a 10-15 year time period. Why is that? The reason is that individual investors tend to be too emotional with the process. The market goes up and down, if you’re managing your own investments you are more likely to get nervous and sell at the wrong time. As I tell my clients almost every day, “the only people who get hurt on a roller coaster are the ones who jump off”.
Here are the facts; the stock market, where most mutual funds are invested, has risen at an average of 8% per year since pretty much the dawn of time. The average advised investor has achieved a similar return, net of fees, while the average investor who tries to go it alone without professional advice has achieved about 2% over the same time period, (for the answer to why that is, see the roller-coaster analogy above). What that means is that the value of advice well out paces even the overall market.
So before you believe the hype about MERs or direct investing think about what you are really paying for and why. You don’t necessary have to pay a high MER, there are ways to reduce it if you ask, but advice is valuable, and advisors have to make an honest living just like you.