U.S. mutual fund advisers consistently recommend funds that pay them higher commissions, but which often underperform for clients, a newly published study shows – a finding that has implications for investors in this country as well.
The study, led by Susan Christoffersen, an associate professor at the University of Toronto’s Rotman School of Management, demonstrates a tendency for advisers to recommend mutual funds that pay them greater fees, rather than ones that best suit clients’ portfolios.
Published in the February issue of the Journal of Finance, the study uses filings from the U.S. Securities and Exchange Commission from 1993 to 2009, and is believed to be the first of its kind to use hard data to explicitly draw a link between advisory fees and investment performance.
The study reopens the debate on how well the industry serves its clients, and spotlights the need for investors to scrutinize their funds’ fee structures to ensure their interests are being served.
“As a mutual fund shared more of the commission with the broker, more money flowed into that fund,” Prof. Christoffersen said.
While the study is based entirely on U.S. data, she believes the same conflicts of interest are common in Canada.
Most Canadians buy into mutual funds through an adviser, but many don’t realize the incentives their adviser has to steer them into one fund or another.
Investors are often unaware that a chunk of a fund’s annual fee – its so-called management expense ratio (MER) – is returned to their adviser in the form of a trailer fee that is supposed to cover the cost of ongoing advice, Prof. Christoffersen said. This structure gives advisers an incentive to choose the funds that pay them the largest possible fees.
“Most people don’t recognize that the broker could be in conflict with providing solid advice,” she said in an interview.
Canadians pay some of the highest mutual fund fees in the world, and the study adds to the growing discussion about them. The Canadian Securities Administrators released a discussion paper in December outlining potential initiatives to enhance the fairness of Canada’s mutual-fund fee structure, including new performance reporting requirements for advisers.
Jon Cockerline, director of policy and research with the Investment Funds Institute of Canada, expressed concern with the study’s applicability to Canada, saying that “the two markets aren’t even similar,” and that using data from 1993 to 2009 doesn’t reflect the mutual-fund world today.
But Dan Hallett, HighView Financial Group’s director of asset management, said the study is still relevant, despite the countries’ differences and the time that’s elapsed since data collection began.
“You always look at it in the context of the evolution of the industry,” Mr. Hallett said. “I think it’s great they have that much data.”
While the study focuses on fund recommendations, other research suggests that financial advisers deliver their biggest benefits in other ways – typically by encouraging clients to construct sensible portfolios and follow a regular savings plan.
A 2012 study by the Center for Interuniversity Research and Analysis on Organizations found that investment advice has a significant impact on overall wealth accumulation and retirement readiness.
“The value add for advisers is less around choosing products,” Mr. Hallett said. Instead, value comes more from “influencing behaviour in a positive way, in terms of getting a plan, and having people follow through on implementation … with a portfolio linked to their future spending goal.”
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