[spirit]

First of all I want to say that I(along with my husband) am only an investor and not affiliated with any mutual fund company. Actually I am a high school teacher. 30 years ago I started buying mutual funds from a retired teacher. I will admit that I started small ($50/month) but that increased with time. She retired a few years ago and recommended we give our account to someone she considered very ethical and we did. Remember that trust was paramount throughout these years. I believed that they were experts and made informed decisions on my behalf. I had no time or interest in doing their jobs. However, I believed I was a good consumer who researched major purchases such as cars etc. but I placed good mutual fund management as having some value and was willing to pay for it. I also kept about 1/2 my money in fixed income such as GIC's because I didn't totally trust the stock market. I have not sold any mutual funds because I believe the fundamentals are still valid. With all the mounting concern over the financial markets is the mutual fund model dead for the future? I would like to hear from those in the business justify their knowledge is worth my loyalty.

 

[Rickson9]

No offense but a few comments that you made got me stumped (which isn't hard to do btw):

I believed that they were experts and made informed decisions on my behalf. I had no time or interest in doing their jobs.

I have not sold any mutual funds because I believe the fundamentals are still valid.

If you do not understand interpreting financial statements (and or making informed decisions) how can you determine if the "fundamentals are still valid"?

With all the mounting concern over the financial markets is the mutual fund model dead for the future? I would like to hear from those in the business justify their knowledge is worth my loyalty.

Canadian mutual funds are well known throughout the world as being the highest fees and, consequently a horrible 'investment'.

http://network.nationalpost.com/np/blogs/wealthyboomer/archive/2009/05/13/u-s-mutual-funds-get-overall-quot-a-quot-in-morningstar-study-of-16-countries-canada-flunks-for-high-fees.aspx

In general, a 2.5% MER fund (which is the average expense ratio) will take off half of your investment results every 3.5 decades. In other words, if you started investing at the age of 30 and were supposed to retire at the age of 65 with $1M, if you had invested in a 2.5% MER fund (there are many many Canadian funds that have far higher fees) you would only have $500,000 (or less).

You can think of this in the opposite manner - if you are retired after investing in a 2.5% MER fund in your 30s, whatever you end up with should have been double what it is. Thus, if you are standing at $500,000 at retirement, you should have had $1M.

Half my retirement take is too much to pay for any advisor. This is why my wife and I do not use financial planners - we would rather keep the $500,000.

From the aforementioned article,
"Canada got a failing grade of F for its high fees, as Morningstar Canada reported on its web site here. On fees, Canada finished dead last, corroborating an earlier academic study by Harvard's Peter Tufano and two other finance professors. Morningstar found that Canada and Japan were the only countries in which the median MER for equity funds generally ranged between 2% and 2.5%. "We encourage fund companies in Canada and Japan to lower their fees and expenses for the benefit of the investors," Morningstar wrote."

However there it hope as it goes on to say,
"As I've pointed out before, it's very easy for Canadians to build portfolios for well under 0.5% annually all-in."

Don't hold your breath if you're waiting for your financial planner to put you into these low-cost options.

In addition, the vast (and I mean vast) majority of Canadians have no idea what the fees are on all of their funds. They can tell you how much they saved buying chicken on special, but they have no idea how many hundreds or thousands of dollars they've lost to fees on all their funds (but at least they had an inexpensive chicken dinner...)

My wife and I find it amusing that financial planners tell us to plan for retirement by investing in their funds - what they neglect to tell us is that it is *their* retirement that we're paying for! LOL

In Canada, an individual who has been placed into a mutual fund by an advisor should expect their returns to be slightly better than a savings account; and this is no exaggeration.

 

[Spidey]

I agree with much of Rickson's advice. You may want to read "The Four Pillars of Investing" by William Bernstein. Basically, the book outlines that low MER index funds outperform somewhere around 80% of higher MER managed mutual funds.

However, you should give yourself a pat on the back for some of your decisions. Keeping half your investments in GICs was probably a wise move particularly in light of the recent market meltdown. Also being a high school teacher means that you've got a healthy pension ahead of you.

As for your mutual funds -- you may want to consider placing them in the comparable index funds. For example if they are 100% Canadian equity funds, then pick a Canadian index fund to replace them -- perhaps the "TD CDN index - e" or an ETF. Or if they were, say, a combination of balanced funds and US and international equity then you may want to replace them with a comparable mix of CDN equity index, US equity index, International Index and bond index funds. Just off the top of my head, I would say that since you already have 50% of your savings in fixed income and a pension as well, a mix of 60% Cdn Index, 20% US index and 20% international index may be appropriate for the portion currently in mutual funds. If you want less volatility you can add bond index funds into the mix. Individual stocks would probably not be appropriate given what you've said regarding investing experience.

TD "e" index funds have MERs somewhere in the neighbourhood of .3%.
Index ETFs have MERs somewhere in the neighbourhood of .15- .25%

So say you have $100,000 and are currently paying a 2.5% MER. You will save over $2000 per year and probably get better performance.

All that being said, I would recommend reading the above book first.

 

[spirit]

Thank you

Thank you to the both of you for your opinions. I must admit that since Oct. I have become an extremely interested watcher of BNN. Also most people I know who are my age (late 50's) felt the same way as I did re mutual funds. They were a vehicle (fairly safe we thought) to invest some of our money for the future without going full bore into the stock market buying individual stocks. Day trading was for those with time to research and a cast iron stomach to handle volatility. We did not want to start up a business or buy rental property. We had demanding careers of our own along with the demands of raising families. 30 years ago mutual funds were very attractive with their promises of investing in good companies in a manner designed to minimize risk. Now it is 30 years later and the times today are not just a normal bubble correction but a paradigm shift in the financial industry. (IMHO) I agree that with so many options out there for investing, the traditional mutual fund buyer is getting a great education on alternative financing. My own mutual fund advisor is taking courses on retirement investing to help her clients manage their retirement portfolios. Focus on managing retirement investment not building wealth. I don't have the stomach to pay 2.5 MER for the next 30 yearsand that is the reason for this post. I want to know how the mutual fund industry will be able to justify themselves to those like me who are looking at different ways to self manage their finances.

 

[Rickson9]

I want to know how the mutual fund industry will be able to justify themselves to those like me who are looking at different ways to self manage their finances.

The fund industry won't need to justify themselves for a long long time. They are very loosely regulated with regards to fee disclosure.

Nobody reads fund prospectuses from front to back anyway; and if they did I'm not convinced that they would find out all the fees involved.

As far as Canadians and mutual fund fees are concerned, investors apprently can't be bothered to ask their advisor (and if they did ask, there are many techniques to sidestep the issue) and it isn't in the advisor's interest to spend too much time talking about fees.

As long as the investor treats their mutual fund like a low interest savings account, they won't be disappointed. For example, in your case where you had a portion in GICs and a portion in mutual funds; you could basically treat your investment as 100% in GICs as far as long-term results are concerned.

As far as it being a paradigm shift; it really isn't. It only feels that way because human memory is so short. Cycles have always come and gone and everybody believes that this time is different (but it never is). If the only thing a person understood was index funds and the cycle of recession and prosperty they would do quite nicely over time.

In addition, I don't blame financial planners for doing what they do. I have friends who are financial planners and they do very well for themselves. If someone wanted to recommend a profession for their children, I would strongly recommend financial planning. Living off the fees from your customers is a very nice way to go, especially when you will have these customers for decades; it's like having the income of a surgeon without the liability.

 

[MoneyGal]

Whoa. I would never say you could relate to mutual funds as being "like a GIC." Mutual funds (and any equity investment) carry the risk of loss, while guaranteed products provide a guaranteed return.

I know what you are trying to communicate - you are saying the OP should not expect returns above fixed income on the MF part of her portfolio. However, the fixed income portion of her portfolio has a lower bound on returns, and the MF portion does not.

I'm no fan of mutual funds, however, the potential advantages of MFs include:

- low-cost diversification for small amounts (relative to buying individual stocks)

- a convenient way to implement portfolio tilts (i.e., value, small-cap)

- related to the tilt, a way to invest in specific sectors of the market in an attempt to get other than market returns

- active trading at low cost and with no time investment and little knowledge investment (relative to implementing an active trading strategy yourself)

- A way for investors with small portfolios to work with a licensed advisor

Some of these features are available using ETFs.

I'm strictly a DIY investor using ETFs and when I was a licensed advisor I used ETFs as well.

However, for some people, retail MFs are going to be their choice, because they are the most available and the most accessible (it is actually very difficult to find an advisor to implement an ETF portfolio for accounts of less than $250K).

For those people, who either can't or won't DIY, mutual funds provide a way to get exposure to the market. Yes, at high cost, and yes, I think costs matter (I think they are the number one factor in determining long-term investment success, actually). But even I sometimes buy milk at the convenience store.

 

[Spidey]

I guess it should be mentioned as well, that there are some managed mutual funds that charge more reasonable MERs. Phillips Hager North (although now they have higher MER versions for financial planners) and Mawer come to mind.

The trouble is, commission based financial planners will never recommend low MER mutual funds because they get their income from trailer fees (a percentage of the MERS). This, in my mind, causes a huge conflict of interest because it is the high MER mutual funds that supply the best income to the financial planner.

 

[bpither]

I was a client of PH&N for years. They probably have the best fixed income team in the country but they have had mixed results in their US and Overseas funds. Everything got clobbered in the fall.

I became a client because at the time I believed that everything was expensive: real estate, most stocks and bonds. If you don't understand this and do not want to learn how to buy when an investment is good value then you can keep getting shafted by financial "advisers" and/or lose in the long run in lousy mutual funds.

You have to do your own investing, and when the time is right, when stocks are cheap and when there is good cash flow and a history of rising dividends in a non cyclical industry such as a utility or a pipeline strike with courage. In February Canadian banks were astoundingly cheap and as a long term investment you can not go wrong with Royal or TD. Doesn't matter about the short term gyrations - if you are in for 10 years you will be richly rewarded by rising dividends. By winter perpetual discount preferreds dropped 30 - 40% and at the best valuation since 93-94. They were steal and they are all positive and pay me between 6 and 8% which is equivalent to a 8 -10% payout from a bond.

It's a tough gig but I am so glad I took the plunge. In BC you can earn over $60,000 in dividends (not distributions which is what income trusts and mutual funds are all about) without paying tax (basic minimum of a couple of hundred dollars) http://www.conservativeinvesting.ca/pdf/tax_free_dividends.pdf ... and they are credits which mean you can offshoot other taxable income such as interest and distributions. Each province is different but BC is the best in the country.

For starters go to Tom Connolly's website "Dividend Growth" http://www.dividendgrowth.ca/dividendgrowth/. You'll never buy another mutual fund in your life.

You can also easily buy an ishares or Claymore ETF by opening an account with an online discount broker such as TD Waterhouse. That's what I do.

 

[Rickson9]

Whoa. I would never say you could relate to mutual funds as being "like a GIC." Mutual funds (and any equity investment) carry the risk of loss, while guaranteed products provide a guaranteed return.

I know what you are trying to communicate - you are saying the OP should not expect returns above fixed income on the MF part of her portfolio. However, the fixed income portion of her portfolio has a lower bound on returns, and the MF portion does not.

"...you could basically treat your investment as 100% in GICs as far as long-term results are concerned."

I wasn't talking about their respective risk profiles; but I think we both understand what each of us was trying to communicate.

I'm no fan of mutual funds, however, the potential advantages of MFs include:

- low-cost diversification for small amounts (relative to buying individual stocks)

Diversification has never been a benefit. This concept has been sold to Canadians by the fund industry. Diversification is a negative (and a very large negative at that).

"I was suffering from my chronic delusion that one good share is safer than ten bad ones, and I am always forgetting that hardly anyone else shares this particular delusion." - John Maynard Keynes, 1942

"The strategy we've adopted precludes our following standard diversification dogma. Many pundits would therefore say the strategy must be riskier than that employed by more conventional investors. We disagree. We believe that a policy of portfolio concentration may well decrease risk if it raises, as it should, both the intensity with which an investor thinks about a business and the comfort-level he must feel with its economic characteristics before buying into it." - Warren Buffett, 1993 Chairman's Letter to Shareholders

"I have owned one stock since 1969, two since 1988 and one I started buying in 1986 or so. That's my portfolio. Six stocks. I once owned 17, but that was way too much." - Philip Fisher, Forbes

- a convenient way to implement portfolio tilts (i.e., value, small-cap)

All investing is value investing. If you aren't value investing, then you're probably just fooling around.

"The whole concept of dividing it up into 'value' and 'growth' strikes me as twaddle. It's convenient for a bunch of pension fund consultants to get fees prattling about and a way for one advisor to distinguish himself from another. But, to me, all intelligent investing is value investing."
- Charlie Munger

Disclaimer: my wife and I also own approximately 6 stocks and we have absolutely destroyed the returns of any diversified holding over the last decade. The discrepancy is so huge that speaking about diversification as an advantage is laughable to us.

- active trading at low cost and with no time investment and little knowledge investment (relative to implementing an active trading strategy yourself)

"Active trading" is the second huge negative in investing. It is not a benefit. Active trading coupled with divsersification is the best way to ensure mediocre to poor results.

"All intelligent investing is value investing - to acquire more than you are paying for. Investing is where you find a few great companies and then sit on your ***. - Charlie Munger at Berkshire Hathaway's 2000 Shareholder Meeting

"Much success can be attributed to inactivity. Most investors cannot resist the temptation to constantly buy and sell."
- Warren Buffett

"Charlie and I decided long ago that in an investment lifetime it's too hard to make hundreds of smart decisions. Therefore, we adopted a strategy that required our being smart - and not too smart at that - only a very few times. Indeed, we'll now settle for one good idea a year. (Charlie says it's my turn.)" - Warren Buffett

With regards to "little knowledge investment", if you plan to "invest" (and I use the term loosely) with "little knowledge" then your expectations should be the same as your knowledge level, that is, that your returns will be similar to a GIC (with a higher risk profile to compensate for your lack of knowledge).

- A way for investors with small portfolios to work with a licensed advisor

If by "licensed advisor" you mean sales person, then you are correct. However I don't see how this is an advantage.

When I started with $3000 10 years ago, and even now with over $1.2M I still don't want to work with a licensed advisor. The game is already tough enough without somebody else manouvering me into higher frictional costs. I performed far better with $3000 than any licensed advisor could have done for me in the last 10 years.

However, for some people, retail MFs are going to be their choice, because they are the most available and the most accessible (it is actually very difficult to find an advisor to implement an ETF portfolio for accounts of less than $250K).

It is not in the advisor's best interest to recommend the lowest cost option or work with individuals with smaller amounts of capital (e.g. $3000).

For those people, who either can't or won't DIY, mutual funds provide a way to get exposure to the market. Yes, at high cost, and yes, I think costs matter (I think they are the number one factor in determining long-term investment success, actually). But even I sometimes buy milk at the convenience store.

We would need to agree to disagree. Half my investment income is not worth the 'benefit' of using an advisor/sales person to "get into the market". You don't need to be a DIY investor to buy a low-fee index fund - you just need to be aware that they exist.

Capital + lack of financial knowledge + financial advisor = fee gravytrain for decades to come.

Having said that, I don't blame financial planners for doing what they do. I have friends who are financial planners and they do very well for themselves. If someone wanted to recommend a profession for their children, I strongly recommend financial planning. Living off the fees from your customers is a very nice way to go, especially when you will have these customers for decades; it's like having the income of a surgeon without the liability.

 

[Rickson9]

I guess it should be mentioned as well, that there are some managed mutual funds that charge more reasonable MERs. Phillips Hager North (although now they have higher MER versions for financial planners) and Mawer come to mind.

The trouble is, commission based financial planners will never recommend low MER mutual funds because they get their income from trailer fees (a percentage of the MERS). This, in my mind, causes a huge conflict of interest because it is the high MER mutual funds that supply the best income to the financial planner.

Good points!

 

[MoneyGal]

Rickson: I don't think we need to agree to disagree! I think we already agree.

I apologize for not getting the full context of your post about GICs vs. mutual funds - my brain didn't fully process the "in terms of long-term results" portion of what you were saying.

The reason we don't need to agree to disagree is that I personally don't value any of the selling points that I myself laid out in favour of mutual funds. I should have said I was essentially playing devil's advocate.

The problem is that there are people who cannot or will not DIY (or even really pay attention to their investments). For those people, mutual funds are better than the alternatives they would consider, and provide a way to have another person actually doing the transaction for them.

Is this the way I personally invest? Not on your life.

 

[Rickson9]

The problem is that there are people who cannot or will not DIY (or even really pay attention to their investments). For those people, mutual funds are better than the alternatives they would consider, and provide a way to have another person actually doing the transaction for them.

Agreed. This describes everybody including the original poster and is the reason I highly recommend financial planning to anybody looking for a lucrative career.

 

[The_Number]

I agree with others that the expense ratios for mutual funds in Canada are really expensive. *However*, I'm not willing to say mutual funds are bad for most people for reasons MoneyGal has already enumerated.

To Rickson: Diversification issue is whether or not you believe in Modern Portfolio Theory (You need to admit that it is at least a viable theory.)

On a separate note, I found it a bit frustrating that the complete mutual fund information (statistics) is not freely available in Canada. I wanted to spend some time looking through some mutual funds (both index and actively managed) in Canada, but you have to spend $150 or something to subscribe to the Morningstar Adviser service to get statistics like alpha, beta, and Sharpe ratio (I haven't opened my wallet yet -- am I being penny wise and pound foolish?). The same information for American funds are freely available from sites like http://www.mfea.com.

P.S. to Spidey: Your nick is clever. I'm guessing you are an ETF man?

 

[Rickson9]

To Rickson: Diversification issue is whether or not you believe in Modern Portfolio Theory (You need to admit that it is at least a viable theory.)

I'm not sure what I am admitting to?

Diversification/MPT is viable to ensure mediocre performance. I'll buy that.

95+% of individuals are uncomfortable with portfolio concentration. A similar number believe in diversification. This is one of the major reasons why the majority will not be wealthy. This is not meant to be a slam on the average person; it just is the way it is.

Actually, being wealthy is not really important to most people, which is fine; there are more important things in life than hoarding assets that will never be used.

 

[The_Number]

As I understand it, the basic argument of MPT is that you can decrease the linear risk/return ratio by diversifying. For example, MPT would argue that a portfolio that consists of 80% stocks + 20% bonds has less potential returns than a portfolio of 100% stocks, *but* the mitigated risk by diversification (in this case asset allocation) is greater relative to the return you give up ("You are reducing a lot of risk, but you don't have to give up that much return). On the other end, 20% stocks + 80% bonds have greater potential return *and* lesser risk compared to 100% bonds.

When I say that the theory is viable, I mean:
(1) it is justifiable by a "real" economic theory
(2) it has empirical data to support the theory
(3) the mathematical formula (which I do not purport to understand ) is coherent
(4) enough credible economists believe in it

Wouldn't you agree (regardless of whether you personally think it's true or not or not its application is suitable/beneficial to you or most people)?

 

[Rickson9]

As I understand it, the basic argument of MPT is that you can decrease the linear risk/return ratio by diversifying. For example, MPT would argue that a portfolio that consists of 80% stocks + 20% bonds has less potential returns than a portfolio of 100% stocks, *but* the mitigated risk by diversification (in this case asset allocation) is greater relative to the return you give up ("You are reducing a lot of risk, but you don't have to give up that much return). On the other end, 20% stocks + 80% bonds have greater potential return *and* lesser risk compared to 100% bonds.

Buying more doesn't decrease risk. I don't see how that makes sense.

MPT's basic premise is that the market has priced in all information. Which is wrong. The basic premise should be that that in the _majority_ of cases, the market has priced in _most_ of the information.

"The strategy we've adopted precludes our following standard diversification dogma. Many pundits would therefore say the strategy must be riskier than that employed by more conventional investors. We disagree. We believe that a policy of portfolio concentration may well decrease risk if it raises, as it should, both the intensity with which an investor thinks about a business and the comfort-level he must feel with its economic characteristics before buying into it." - Warren Buffett, 1993 Chairman's Letter to Shareholders

When I say that the theory is viable, I mean:
(1) it is justifiable by a "real" economic theory
(2) it has empirical data to support the theory
(3) the mathematical formula (which I do not purport to understand ) is coherent
(4) enough credible economists believe in it

Wouldn't you agree (regardless of whether you personally think it's true or not or not its application is suitable/beneficial to you or most people)?

(1) Not sure what "real" economic theory means? Value investing is a "real" economic theory as well?
(2) Value investing has empirical data to support the theory as well?
(3) The formulas behind value investing on the one hand and credit default swaps on the other is coherent as well?
(4) A lot of credible cartographers believed in the flat earth theory a couple hundred of years ago?

http://blogs.wsj.com/marketbeat/2009/05/02/buffett-and-munger-stay-away-from-complex-math-theories/

Math is used to justify many things. Numbers seem to have a way of convincing people - I should know, as an engineer working in the drug industry we use company-sponsored peer-reviewed, multi-center, randomized, double-blinded, cross-over studies powered for non-inferiority, to convince our customers to buy our pharmaceutical products. Math (especially statistics), in any industry, is the absolute best way to sell an idea.

Similar to how institutions use mathematics to sell the idea of MPT.

I agree that without MPT I would not be able to beat the market. The only reason value investors hold an advantage over the majority is that the majority subscribe to MPT and the tiny minority subscribe to value investing.

It is fortunate that value investing cannot be taught because 99 out of 100 people do not believe in it - which is good for the 1.

"While it might seem that anyone can be a value investor, the essential characteristics of this type of investor...may well be genetically determined. When you first learn of the value approach, it either resonates with you or it doesn't."
- Seth Klarman

"It is extraordinary to me that the idea of buying dollar bills for 40 cents takes immediately with people or it doesn't take at all. It's like an inoculation. If it doesn't grab a person right away, I find you can talk to him for years and show him records, and it doesn't make any difference."
- Warren Buffett

I didn't undertand this quote by Warren Buffett when I first read it in my teens. I didn't understand why people didn't want to be wealthy. I do now.

MPT can be taught. MPT is widely subscribed to. Value investing cannot be taught. Value investors are why the wealthy are in the minority.

 

[FinancialJungle]

Buffett does run a concentrated portfolio, but not as concentrated as one might think. Many of his top holdings are global blue chip companies diversified across many sectors including food & beverage, industrial, personal & household goods, banks, credit cards, pharmaceuticals & biotech, insurance, and oil & gas.

Procter & Gamble alone is probably as diversified as 100 small caps combined.

 

[Rickson9]

Buffett does run a concentrated portfolio, but not as concentrated as one might think. Many of his top holdings are global blue chip companies diversified across many sectors including food & beverage, industrial, personal & household goods, banks, credit cards, pharmaceuticals & biotech, insurance, and oil & gas.

Procter & Gamble alone is probably as diversified as 100 small caps combined.

It is somewhat difficult to run a "concentrated" portfolio when one has amassed tens of billions of dollars. Especially considering that the tens of billions of dollars didn't appear all at once.

 

[ernestmanning922]

Nice topic and found some excellent post here!

Mutual funds offer great diversification opportunities, but you should know what you are getting into.

 

[lb71]

Mutual funds are good investment choice for smaller investors. If you are starting out you can invest in mutual funds for as little as $25 or $50 a month. You won't be able to do that with stocks without incurring high fees. Some, like the TD e-series, provide low MERs. Once you build up a decent size asset base, you can branch out and invest individually. Mutual funds have their weaknesses, but they also have a place.