Canada needs a bigger selection of mutual funds like it needs an extra month of winter.
And yet, some good for investors may come from the four actively managed mutual funds that Vanguard, the U.S. investing giant, is preparing to launch in the Canadian market. Expect fees for these funds to be dramatically lower than what our domestic fund companies charge.
It's about time the fund industry joined the low-cost investing revolution. Online brokerage commissions have plunged to between $5 and $10 flat from a minimum of $9. Exchange-traded funds were born cheap, but in recent years have become an even better value. On the advice front, robo advisers have made portfolio management available at one-third to half of what traditional advisers charge.
The $1.5-trillion Canadian fund industry has trimmed fees in recent years on the many thousands of products it offers, but the trend has badly lagged what we've seen in other sectors. Vanguard's move, revealed in regulatory filings this week, ups the pressure on Canadian fund companies.
Unfortunately, Vanguard has not yet decided to sell its low-cost index mutual funds here. As offered in the U.S. market, these funds made low-cost index investing cheap and accessible for investors who choose not to use ETFs. The four actively managed funds that are coming to Canada are the Vanguard Global Balanced Fund, the Vanguard Global Dividend Fund, the Vanguard U.S. Value Windsor Fund and the Vanguard International Growth Fund.
A preliminary prospectus for each has been filed for regulatory approval, which will likely take a few months to finalize. Each of the funds will be F-series, which means no embedded commissions for advisers (there's also an I-series for institutional investors). The F-series funds will be available for advisers to use in fee-based accounts, where clients typically pay their advisory firms 1 per cent to 1.5 per cent of the value of their account a year. They won't be directly available to investors.
Vanguard says the maximum management fee for the four F-series funds will be 0.5 per cent. Management fees are the biggest component of a fund's management expense ratio, which cannot be reported for new funds. But some of the biggest F-class equity mutual funds in the Canadian market have management fees as high as 0.8 per cent to 1 per cent.
Vanguard is already well known to Canadian exchange-traded fund investors, who have pumped about $14-billion into the 36 ETFs the firm has listed on the TSX and almost as much into U.S.-listed Vanguard products. The company claims to have had a big influence on fees in Canada: Since 2011, average management expense ratios (MERs) have declined in 12 of the 13 ETF categories in which the firm competes. In categories where Vanguard doesn't compete, fees fell in five of 12 cases.
The company's aggressiveness on pricing is a direct result of its unique structure. Vanguard isn't a publicly traded company that needs to continually increase profits and dividends. Instead, it's owned by its funds, which in turn are owned by the investors who hold them.
U.S. fund companies have had mixed results in Canada – for every success such as Fidelity, there's a failure such as Scudder. The biggest challenge for Vanguard will be getting advisers to use its products for client portfolios. Fund sales in Canada are dominated by the banks, which have their own products to sell, and independent advisers will need to be convinced to make room for new funds. It won't be easy.
Still, investors and advisers are fast becoming more fee-conscious. Seeing investing costs falling in the ETF world and at both online brokers and robo advisers whets the appetite for more. Is the fund industry keeping up?
Let's set the scene before Vanguard's funds come to market by looking at a handful of the biggest mutual funds:
Investors Dividend A: The MER in 2017 was 2.4 per cent, compared with 2.46 per cent in 2013.
RBC Canadian Dividend A: The MER in 2017 was 1.77 per cent, compared with 1.8 per cent in 2013.
Manulife Strategic Income A: The 2-per-cent MER in 2017 compares with 2.07 per cent in 2013.
TD Canadian Bond I: 1.1 per cent in 2017, compared with 1.11 per cent in 2013.
Weak, right? Mutual-fund companies today compete on price by broadening their lineups to include lower-cost ETFs, not by lowering the price of their existing products. If Vanguard can help change this, then its new funds will be winners regardless of how they perform.