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There's a back story if your investment adviser suddenly starts talking up the benefits of segregated funds.

A seg fund is a mutual fund with insurance guarantees. Seg funds are a valuable estate planning tool, and they may have something to offer business owners who want to protect investment assets from creditors. But using them as the building blocks of a diversified, mainstream investment portfolio makes little sense.

This point needs to be emphasized right now because of some regulatory changes going on in the background of the investing industry. Starting in July, 2016, investors will be shown the dollar amount of fees they're paying for advice and other things. Advisers who use securities like mutual funds, exchange-traded funds, and stocks and bonds will be part of this move. Seg funds are a separately regulated insurance product and thus excluded.

Many advisers are licensed to sell both mutual funds and seg funds and at least a small number are expected to focus on seg funds to avoid the new fee disclosure rules. What you'll end up with in seg funds, if you're an everyday investor, is a portfolio with higher than normal fees and features you don't really need.

Seg funds have had their moments of glory in the investing business. Roughly 20 years ago, their insurance guarantees positioned them as the conservative investor's alternative to guaranteed investment certificates at a time when interest rates were declining. Almost a decade ago, seg funds were hot once again because of their role as the key component in a retirement income product called the guaranteed minimum withdrawal benefit. GMWBs surged in popularity, but then faded as insurance companies made some of their features less appealing.

Now, seg funds could be on the rise again. Data from the analysis firm Investor Economics show total assets were $113.1-billion as of March 31, which is modest compared to the $1.1-trillion invested in mutual funds. But gross sales increased by a healthy 16.8 per cent on a year-over-year basis to $12.4-billion. Are the investors buying seg funds getting the right product for their needs?

Let's take a look at what seg funds have to offer. To start with, they guarantee you receive either 75 or 100 per cent of your investment capital back when the funds reach maturity after a period of 10 or 15 years, or at death. Also, you can name a beneficiary for your seg fund and have the assets go to this person after you die without probate fees. And, because they're a type of insurance policy, seg funds also offer protection from creditors. Business owners, as well as professionals who face the risk of malpractice litigation, may find this feature attractive.

Seg funds are a useful tool for sure, but they're not the whole toolbox. "We use seg funds for a very niche purpose," said Asher Tward, vice-president of estate planning at TriDelta Financial. "They're maybe 5 per cent of our book."

Mr. Tward said a seg fund feature he finds particularly useful is the 100-per-cent death guarantee. He offers the example of a 75-year-old client who has money set aside for particular beneficiaries and doesn't want to the money to be caught up in probate (establishing in court that a will is valid). This client wants the money invested for his heirs, not for himself, and that suggests a focus on growing the money for the future rather than preserving it. With seg funds, the worst that can happen at maturity or on death is that the client's seg fund is right where it started in value.

Better results are possible thanks to a reset feature in some seg funds that allows for the capital guarantee to apply to investment gains in the account as well as the original investment amount. (Note: resetting a seg fund means starting a new maturity guarantee period.)

Mutual funds are widely criticized for high fees, but seg funds cost more. The fund filter on shows that the management expense ratio for the largest 20 widely available seg funds in the Canadian equity category range from 2.57 per cent to 3.25 per cent. MERs for the 20 largest Canadian equity funds run from 2.05 per cent to 2.39 per cent. To be fair, fees have come down a lot since the seg fund heyday of 20 or so years ago. But so have the features built into these products in some cases.

Mr. Tward said some seg funds now require you to stick around for 15 years, up from 10, to qualify for the 100-per-cent principal guarantee and death benefit. You may find that you get a 75 per cent guarantee over 10 years and a 100-per cent guarantee only after 15 years. "Those 15-year guarantees are pretty useless," Mr. Tward said. "There really isn't a lot of value in that for most people."

His point is that with 15 years in the stock market, you've got every chance of ending up well ahead of where you started. The chance of losing money after 10 years in stocks is remote, too, but 15 years is still less likely. This calls into question the value of the 75 per cent capital guarantee as well. There have been several 10-year periods in which the U.S. stock market has lost money, but the declines have ranged from 4.7 per cent to 6.1 per cent on an average annual basis after inflation.

Karol Kalejta, an associate consultant at Investor Economics, said the main selling points of seg funds are creditor protection, the probate protection and the downside risk protection. "Canadians do like an investment product that provides some kind of floor," he said.

Worried about investing risk? Instead of buying seg funds, use regular mutual funds, exchange-traded funds or individual securities. Diversify into stocks, bonds and cash and recognize that there will be short-term upsets along the way to long-term investing gains.

Look to seg funds for help in estate planning and creditor proofing. They have their place in the investing world, but they're not your everything.

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