Imagine a time when everyday citizens were oppressed and deceived by a select few institutions of authority. They were told how to think, how to act, and what was best for them. But after years of suffering, new ideas began to emerge based on science, reason, and scepticism that challenged authority and helped reform society. These ideas and beliefs spread quickly, cultivated by an increase in literacy and a departure from solely institution-based writings of the past.
Unlike the citizens of 17th-century Western Europe, Canadian investors have yet to experience their Age of Enlightenment. The financial services industry pushes its doctrine – expensive mutual funds – down investors’ throats by using salespeople masquerading as financial advisors to sell products that are “suitable” but may not be in the best interest of their clients.
Canadians pay the highest mutual fund fees in the world – costs that are hidden and rolled up into a percentage that many investors simply don’t understand. The average investor spends just an hour or two a year with their advisor and is unaware that an advisor is not required to act in their best interest. Investors don’t hear about lower cost funds, index funds, or ETFs, nor have they ever received an account statement that shows how their portfolio was doing – an annual rate of return that’s compared against an appropriate benchmark. They don’t even know how their advisor is paid.
But the tide may finally be turning. Effective July 15, 2016, new disclosure requirements will shed light on fees and performance through a regulatory initiative known as Client Relationship Model, phase 2 – or CRM2.
The impact of CRM2 means that, for the first time, retail investors will begin to understand exactly how their investments are doing and exactly how much they are paying.
Investors will receive two new annual documents. The first is a report that shows investment returns for the previous year, the past three-, five and ten-year periods, and since the account was opened. The second report will disclose fees and other charges – itemizing the cost of everything from embedded trailer commissions, to redemption fees, switch fees, and RRSP administration fees, and provide a total dollar figure for the year.
How might an investor react to these new statements? Consider this hypothetical account of an ordinary investor named Marci when she opens up her account statement next December:
“That 2.18 percent MER didn’t sound like a lot at the time, but Marci was shocked to discover that the fees on her $80,000 RRSP account added up to $1,744 this year. Of that, $800 went to Marci’s advisor, Bill, which was odd because she thought Bill’s advice came free.”
Bill had always explained how well her fund has performed over the years, returning an impressive 7.33 percent annually over the last three years. But it turns out that Marci’s “Green Bank Canadian equity fund” actually trailed its benchmark by 2.68 percent over that three-year period.”
The Age of Enlightenment took place between 1650 and 1800 and began a period in which cultural and intellectual forces challenged the deep-rooted authority of church and state.
While the investment industry clings to its old traditional model, a new era is about to transform the landscape for Canadian investors. Transparency and disclosure will lead to investors asking more questions and researching better options. The industry will be forced to adapt, through technology and innovation, to serve the needs of the newly informed public.
CRM2 is just the beginning. Next up, regulators will take a closer at banning embedded trailing commissions and separating advice from product sales. Then, perhaps a long overdue change from the inferior suitability – Know Your Client – standard to a fiduciary duty of care for investors.