They say a cynic knows the price of everything and the value of nothing.
That’s one up on most investors, who know neither.
Sorry for the blunt talk, but we’re at a pivotal moment in investing as we begin 2013. Securities regulators have opened a discussion on the fees investors pay advisers who sell them mutual funds, and this presents a perfect opportunity to raise overall fee awareness.
One way to do this is to analyze the current extent to which investors understand and engage on the cost of investing. There are two themes at play here, one of them being the way in which the mutual fund industry has infantilized investors by hiding the cost of investing. The other is the willingness of investors to uncritically accept the fund industry’s fictional world of zero-cost investing. This is pure laziness and it borders on negligence.
The mutual fund industry dines off your ignorance. It has created a structure where the fees charged to run mutual funds include a very large chunk that is directed by fund companies to advisers who sell funds and their firms. All fund fees are scooped off the top of fund returns, and the net amount is what appears in fund company literature and on third-party data websites like Globeinvestor.com.
The fund industry turned advisers into their sales arm, and rewarded them with a compensation system that kept inattentive investors from ever encountering fees. But advisers sold their souls in this transaction. In allowing people to think there’s no cost to advice, they made it possible to also think there’s no value to it.
Advisers who take the long view will agree that, banded together, the Canadian Securities Administrators and provincial securities regulators should end the practice of fund companies paying advisers. These payments, called trailing commissions, are designed to deceive, and not a way for stand-up professionals to be paid.
What regulators should do is order the replacement of trailing commissions with a fee that is set by the adviser as a percentage of the client’s assets, to be withdrawn quarterly from cash holdings in the client’s account. The investment industry should introduce the phrase “advice fee” and create standards under which this fee would cover not only investment management, but financial planning. At the end of this path, a decade or two from now, advisers might just be regarded as true professionals like accountants.
The investing industry is one obstacle to this happening, and not just because the status quo on fees is very lucrative. So much of what the industry does has the effect of intimidating investors to make them compliant: the never-ending stream of jargon, the ubiquitous commentary that investors are doing the wrong thing. Worth noting here is the fact that many of misguided investors have advisers.
Advisers themselves are another obstacle to greater fee transparency, although more and more are moving on their own to professionalize what they do by improving fee disclosure and integrating financial planning into their practices. Laggards should ultimately lose the right to call themselves advisers.
Still another hurdle is you, the investor. You can be half to two-thirds excused for your fee ignorance because of the way you’ve been manipulated by the investing industry. But let’s get real. Do you really imagine that advisers, with all the costs of running a business, can afford to handle your financial affairs for nothing? Have you found any accountants that do your taxes for free, or any lawyers who do the legal work on home sales and purchases at no cost?
Expect to pay for good financial advice, whether it’s through trailing commissions, through a percentage fee based on your account size or through a flat or hourly fee. The flat or hourly fee model is the ultimate in transparency, but it won’t get serious traction in the marketplace until people stop being gobsmacked by the very sensible idea of paying out of pocket for financial advice.
Investing fees are onion-like in their layering. In a coming column, I’ll take my best shot at highlighting them all. For now, accept that you’ll pay fees if you have an adviser, and deal with it. Ask your adviser for an itemized list of the fees you’re paying and then compare them with the investing services and financial planning you receive. Then, ask to have your short- and long-term investing results compared against an appropriate mix of benchmark stock and bond indexes.
First, learn the price of everything. Then, judge the value.