Anyone that has ever worked with me, knows that I am not a fan of mutual funds—especially in Canada. There are several reasons, the top three being:

• Active management almost never beats passively managed lower-cost index funds 
• The MERs (management expense ratios) on mutual funds (especially in Canada) are ridiculously high 
• Inflated sales commissions and/or high trailer fees can influence recommendations made by Advisors 

First, let’s be clear. Financial Advisors need to get paid. Especially if they are good. The issue, for many years, has been there is a lack of transparency on how they are paid, and because of this lack of disclosure, some clients assume that their Advisor is paid by the mutual fund company, and not by themselves. This could not be further from the truth.

If it’s not clear: everybody gets paid, and you pay everybody. 

Here’s how: 

There are three primary way to  pay your financial advisor or broker for a mutual fund purchase: 

1) Front end load:  A fee of (often) 5% – 6%, rarely as high as 9%. This can be negotiated.   

2) No-load:  There is no fee to buy or sell the mutual fund (it is possible that the funds MER can be higher for this option) 

3) Back-end load (also known as: deferred sales charge, or DSC). There is no charge to purchase the fund, however there is a significant (yet, declining) fee to sell or redeem the fund.  Having worked in the industry, I can tell you that some Advisors love, absolutely love, to use DSC options.  This is why: 

Because there is no fee to purchase the fund, and the actual details of the fee structure are buried on page 123-4.b of a long, boring document, clients assume their mutual fund purchase is free.  Which it technically, sort-of, may be, but only if you do not sell the mutual fund for seven years.  This detail is often left out of the conversation.  

But why do some Advisors love the DSC so much?  

Because it pays them an immediate 4% – 5% commission on your investment.  Without you knowing. (as opposed to the front-end load, which could be 5%, but then because you know about it, would have the chance to negotiate it). 

You know me. I love to walk you through these details. Let’s do this: 

You have $25,000 to invest.  Your mother is suggesting you see her Advisor at Investors Group, however, a colleague at work is telling you to open an account at Questrade and purchase Vanguard ETFs. 

We will start with an Investors Group option. The Investors Dividend A (Series A, DSC) has an MER of 2.39%, and the following redemption schedule: 

Let’s assume you invested the entire $25,000 on January 1, 2015 in the fund.  

 …time passes. 

In February of 2017, you decide to return to school and get a masters degree and you need your savings for your a lump sum deposit at Harvard University. (OMG, you got into Harvard?! Congratulations!).  

Let’s say hypothetically that the fund returned:

• 12.6% in 2015,
• 9.6% in 2016 and
• 3.5% YTD on February 28, 2017.

All amounts before fees.  (you know we are going to calculate compound interest and fees together now, right?!) 

January – December 2015

$25,000 x 12.6% = $3,150 (25,000 x .126 = 3150)
$25,000 + $3,150 = $28,150

On December 31, 2015 you have $28,150 and just before midnight, IG is going to take their 2.39% MER fee.  On the entire amount. 

$28,150 x 2.39% = $672.79 (28,150 x .0239 = 672.79) 
$28,150 (your original $25,000 + your $3,150 in 2015 gains) – $672.79 (fee to IG) = $27,477.21

Got it, sprocket? 

January – December 2016

$27,477.21 x 9.6% = $2,637.81 (27,477.21 x .096 = 2,637.81)
$27,477.21 + $2,637.81 = $30,115.02

On December 31, 2016 you have $30,115 and just before midnight (yep, you guessed it!) IG is going to take their 2.39% MER fee.  On the entire amount. 

$30,115.02 x 2.39% = $719.75 (30,115.02 x .0239 = 719.75)
$30,115.02 (your original Jan 1, 2016 capital $27,477.21 + your $2,637.81 in 2016 gains) – $719.75 (fee to IG) = $29,395.27

Still with me?!

January – February 2017

$29,395.27 x 3.5% = $1,028.83 (29,395.27 x .035 = 1,028.83)
$29,395.27 + $1,028.83 = $30,424.10

I am not sure if/when/how IG would charge their 2.39% MER on the first 60 days of the year, so for the sake of simplicity let’s leave it out.

February 28, 2017- Harvard! 

OK, so now it’s February 28, 2017 and you need your money, which is valued at $30,424.10.

If we look at the deferred schedule again (taken from this IG document, remember that long boring document I mentioned above, see page 18):

…it’s going to be 5%, or: $1,521.21 in redemption fees, leaving you with $28,902.89 for Harvard.

I am curious, how you feel about this amount?

Let’s dig a little deeper into the numbers.

• You started with $25,000 and are leaving with $28,902.89, a return of $3,902 on your initial investment in 26 months.
• IG received total fees of $2,913.75.  What this means is that your $25,000 actually returned $6,815.75 but IG took $2,913.75 in fees, leaving you with $3,902.  Meaning, IG took 43% of your total returns.  

How do you feel about the numbers now? 

But we aren’t finished yet!  I am sure you need a break (God knows, I need a break..).  We ran an example of what could hypothetically happen if we visited your Mother’s Financial Advisor at Investors Group.  Now let’s see how things might turn out if we took your colleague’s advice and opened an account at Questrade. 

An almost identical ETF to the Investors Dividend A is the Vanguard FTSE Canadian High Dividend Yield Index, which trades on the Toronto Stock Exchange under the symbol VDY.  I would show you the redemption schedule for VDY, but there is no redemption schedule (or front-end load, no-load, or back-end load) on stocks or ETFs.  You pay a commission to buy a stock or an ETF and so the mutual fund industry loves to proclaim their products are “commission free”.  Certain discount brokers, including Questrade and Virtual Brokers, now allow you to purchase ETFs at zero commission.  This is fantastic, not just because you save the $7.00 (yes, it is like, $7.00) on the initial purchase, but should you (and you should!) invest a regular amount each and every month, these subsequent purchases would also be commission fee.  Meaning?  You could amass a small fortune without paying a single dollar in fees. 

At any rate, I’ve digressed (but just a little). 

Same story/returns as the Investors Dividend A fund in the example above: 

• 12.6% in 2015,
• 9.6% in 2016 and
• 3.5% YTD on February 28, 2017

Again, all before fees. 

January – December 2015

$25,000 x 12.6% = $3,150 (25,000 x .126 = 3150)
$25,000 + $3,150 = $28,150

On December 31, 2015 you have $28,150 and just before midnight, Vanguard is going to take their fee of .3% (what’s that?  A typo?  A misplaced decimal?!  What is this 0.3% MER you speak of?!) Yes, yes!  That right there is everything I want you to know about investing in Canada!  …and, I’m back.  So that’s $84.45 to the good folks at Vanguard Canada. 

$28,150 x 0.3% = $84.45 (28,150 x .003 = 84.45) 
$28,150 (your original $25,000 + your $3,150 in 2015 gains) – $84.45 (fee to Vanguard) = $28,065.55

January – December 2016

$28,065.55 x 9.6% = $2,694.29 (28,065 x .096 = 2,694.29)
$28,065.55 + $2,694.29 = $30,759.84

On December 31, 2016 you have $30,759.84 and just before midnight (yep, you guessed it!) Vanguard is going to take their 0.3% MER fee on the entire amount. 

$30,759.84 x 0.3% = $92.27 (30,759.84 x .003 = 92.28)
$30,759.84 (your original Jan 1, 2016 capital $28,065.55 + your $2,694.29 in 2016 gains) – $92.28 (fee to Vanguard) = $30,667.56

Hang in there – we’re almost at the punchline! 

January – February 2017

$30,667.56  x 3.5% = $1,073.37 (30,667 x .035 = 1,073.37)
$30,667.56 + $1,073.37 = $31,740.93

I repeat, I am not sure if/when/how Vanguard would charge their 0.3% MER on the first 60 days of the year, so for the sake of simplicity we will again leave it out. 

February 28, 2017- Harvard! 

OK, so now it’s February 28, 2017 and you need your funds, which are $31,740.94

Assuming you will pay the highest average discount brokerage commission of $9.99 to sell all your shares of VDY, you will receive $31,730.94.

And so I leave the final decision with you. Visit your Mother’s Advisor at Investors Group (or almost any other mutual fund company in Canada), buy a DSC mutual fund and have $28,902.89 for Harvard, or open an account at Questrade (or almost any other discount broker in Canada), purchase shares of VDY-T, and have $31,730.94. 

Choose wisely. 

Disclaimer: I own a truck-load of VDY-T in my RRSP
Reminder: The above examples are for illustrative purposes only. I obviously cannot predict what the 2015, 2016, and 2017 returns will be for either Investors Dividend A or the Vanguard FTSE Canadian High Dividend Yield Index ETF. The published MERs are factual and were taken from publicly available sources on, you know, the Internet (so they must be true!) I do believe there is a high-correlation between the two funds, and that it would not be unrealistic for the fund and the ETF to produce very similar returns. I would tell you that you should check with a Financial Advisor before making any investment decision but even I recognize the irony in that statement after the above post I just published. However, since my blog is for educational purposes only, I will say perhaps you should consult a fee-only Financial Advisor (who does not sell DSC mutual funds). MoneySense magazine maintains a directory here.