Are Mutual Funds Really That Bad?

Mutual funds have been getting a bad rap lately with their high fees, low disclosure and under-performance.  The introduction of ETFs has given investors a lower cost alternative.

Even David Chilton did an about face in his new book The Wealthy Barber Returns recommending ETFs instead of mutual funds.

It is true that the mutual fund industry is losing market share to ETFs but they still have $871.1 billion in assets under management (according to Investment Funds Institute of Canada – IFIC), and net sales of $5.41 billion so they are obviously part of many portfolios.

Who would benefit the most from holding mutual funds?

New investors and small investors

For someone just starting to invest and only able to contribute small amounts each month, mutual funds are a good choice.  You can start an automatic purchase plan for as little as $25 per deposit.

Related: How To Start Investing Your Money

New investors are often quite conservative and afraid of losing their money.

With this fear of risk it’s easy to be talked into buying mutual funds; holding money market instruments, fixed income and even the popular balanced funds.

However, with today’s low interest rates, the fees will quickly eat into your returns so you’ll have little or no earnings.  If you are this conservative it’s better to stick with a high interest savings account.

Otherwise, take the plunge and buy a low cost Canadian index fund.  Take a look at the top 10 holdings and you’ll probably recognize the companies you’re about to have ownership in.

  • TD Canadian index fund – e-Series MER 0.33%
  • RBC Canadian Index fund – MER 0.72%

You can then branch out into a US Index fund, International Index fund and Bond Index fund to round things out.

Mutual funds are an ideal way to start building up a portfolio.


All financial institutions offer mutual funds.  What could be easier than walking into your branch and opening up an account immediately?

Contrary to popular opinion, bank advisors must successfully complete a securities related course before they are permitted to sell mutual funds, and often take regular in-house training courses.

Related: Why A Fiduciary Standard For Investment Advisors Is Needed In Canada 

Yes, they will emphasize the positive benefits of their own funds but you don’t expect the sales staff at The Source to recommend a better deal for you at Best Buy.  You need to do your own due diligence just as you would with any major consumer purchase.

One Globe 5-Star rated bank mutual fund is:

  • BMO North American Dividend fund – 1-year return is 14.83%, and the return since inception is 6.52% per year.

Many people don’t want to set up a brokerage account.  They may be too intimidated or just plain not interested in do-it-yourself investing with a discount brokerage, or not have the required minimum account size to use a full service brokerage or fee-based financial planner.

Mutual funds invest in a professionally managed pool of securities that provide instant diversification.

Check your banks website for fund information, or go to Globe Investor or Morningstar to compare bank and mutual fund company funds and rankings.

What about those fees?

Canadian mutual funds have the highest MERs in the world.

ETFs are more cost effective so you retain more of your earnings.

Of course, both of these statements are correct.  Years ago mutual funds had strong returns so fees were not often an issue, but now, with lower expected returns, the fees are harder to justify.

Low cost investments look more attractive however, consider other variables besides MERs.

  • ETFs are subject to a brokerage fee – up to $29 per trade.  To be cost-effective you need a few thousand dollars for each transaction rather than small monthly purchases. (Note: Questrade recently announced that its clients can now buy any ETF in North America commission free)
  • Registered plans (e.g. RRSP, RESP) held in a brokerage account charge an annual fee of up to $100 for accounts under their minimum required balances (often $50,000 to $100,000).
  • Why are some people are happy with a cheap haircut from Magic Cuts while others will pay over $100 at a fancy salon.  Some people will pay higher fees for the pleasure of dealing with their favourite advisor rather than doing their business by phone or online.
  • Foreign and sector funds have higher MERs, but will give portfolio diversification not easily or inexpensively available in individual stock purchases.  For example: Eleanor has a core portfolio of bonds and dividend stocks and receives about $50 a month in investment earnings.  She decides to set up a monthly purchase plan into an emerging markets mutual fund.  She realizes the MER is higher for this fund and recognizes it’s volatility but is willing to take the risk for this small amount.
  • The majority of investors need advice and it’s necessary to pay a fair compensation to advisers and money managers for their services.  For the mutual fund investor it is paid by management fees.

The Bottom Line

The bottom line is that you’ll pay some kind of fee for everything but fees should not be the sole, or even major, determining factor when making a purchase.

There are hundreds of investment choices to make and obviously not all are suitable for everyone or for every situation.

Related: Investors Getting Short Changed From Banks, Advisors

It’s important to strike the right balance to achieve your goals with the right products at the right time.  Mutual funds may be just the ticket.

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  1. Jane Savers@ The Money Puzzle on March 27, 2013 at 5:22 am

    My RRSP mutual fund is a big part of my retirement fund.
    My future potential income is divided in to 4 parts – government pensions, work pension, TD Canada Trust RRSP mutual fund and dividend stocks in my TFSA.

    I will continue to contribute to the mutual fund because I consider it a more stable part of my retirement plan than the individual stocks in my TFSA.

    I would never consider a mutual fund from a financial advisor (salesmen). I find they are more interested in their commission than in what is best for you.

    • igra on March 27, 2013 at 8:31 am

      Sorry, what’s an RRSP mutual fund?

    • Boomer on March 27, 2013 at 4:19 pm

      @Jane Savers: Sounds like you have a strategy. Having a good plan that you’re comfortable with, adjusting it periodically as required and giving it time should bring success.

      And igra, Jane holds mutual funds in her RRSP – why the sarcastic comment?

      • igra on March 27, 2013 at 4:51 pm

        Sorry, didn’t mean to offend. Too many people equate RRSP account to an investment, though. And I think saying “RRSP mutual fund” might be contributing to the confusion. Of course, we open an RRSP account and buy mutual funds within that account. Sorry to be a stickler. 🙂

        • Jane Savers@ The Money Puzzle on March 27, 2013 at 8:58 pm

          I think the problem was me typing too early in the morning when I hadn’t had enough caffeine.

          I think of my RRSP and my TFSA as umbrellas and I can put whatever I want under that umbrella.

          • igra on March 27, 2013 at 10:06 pm

            I like your blog. 🙂 I’ll add it to the list of blogs I follow.

            It would be interesting to hear about the funds you hold in your RRSP and the reasons for selecting them. Perhaps, there can be a post about that sometime? (Unless there already was one and I just haven’t found it). 🙂

  2. Ken K on March 27, 2013 at 6:43 am

    Very good article.

    Please note that some online brokers now waive commissions for purchasing ETF’s.

    Note also that that mutual fund advisors do not have an obligation to act in the client’s Best interests.

    A recent IFIC “study” claimed that there is no substantive difference in fees between US and Canadian funds. No doubt Morningstar will challenge data set and/or methodology.

    Data support the thesis that over the long term actively managed mutual funds under-perform their benchmarks but F series do better than A series due to elimination of trailer commissions.

    “Advisors” receiving trailer commissions from fund manufacturers are in a conflict-of-interest.
    We use quotations because most fund salespersons are not licensed as advisers but they do dream up all sorts of impressive , albeit misleading, titles..

    Warmest regards,

    Ken K

  3. igra on March 27, 2013 at 8:28 am

    The MER of the BMO North American Dividend fund is 2.52% making this fund very expensive. Besides, it would be a mistake to look at 1-year return – which is not even that good in this case – when deciding to buy a fund.

    “the smaller a fund’s expense ratio, the better the results obtained by its stockholders.”
    – Nobel Laureate William Sharpe

    • Joe on March 28, 2013 at 2:57 pm

      Yeah, I’ve got to side with Igra. There are bound to be stunning performers simply because of statistical chance. It’s like the old newsletter companies that would mail out different stock predictions to a variety of people. Whenever a newsletter was wrong, they stopped mailing it to the people who got the incorrect newsletter. Within a year or two they had a committed following of people willing to throw money at their scam, because their predictions were never wrong. A 2.52% MER is nuts, regardless of how randomly well an active manager has done. It’s too easy to get diversity across entire asset classes thanks to ETFs to ignore — and diversification is the only free lunch.

  4. Robert on March 27, 2013 at 10:18 am

    BTW: Another option to mutuals and ETF’s is trust units such as those offered by Aston Hill or Middlefield.

    Mutual funds are perhaps of niche value in a portfolio. Except for money market funds for short term cash parking.

    Fees are one thing. They do not bother me if I get value for money. After owning and watching them over time, I have learned that the managers are more subject to whims, fear, bad luck and greed than I am. This is probably due to a variety of pressures in their workplace.

    Buy a winner? Listen to the part of the ad where they lower their voice and talk quickly. Past results neither guaranty nor imply anything about jumping in now. The part about past successes is strictly smoke and mirrors. (actually in a sinister way, past results frequently imply future lagging – whatever they have done has worked great in the last 5 years – which likely means other market forces will be the winners in the next 5. Another way to put it, buying the latest stellar performers is almost identical to buying very high on a stock)

    If you really think a manager is spending meaningful analysis time on the 120 stocks he manages think again. That’s about 2 – 3 minutes per day per stock. On a day he has no calls, meetings, long lunches, or internal paperwork tasks. The smaller his portfolio the more likely he is on top of things – but also the more likely you can do it without him

    My best guess is if I had stayed in mutuals big time instead of bailing about 12 years ago, my nest egg would be less than half what it is now. I am not an active trader.

    • igra on March 27, 2013 at 11:21 am

      >Fees are one thing. They do not bother me if I get value for money.

      Well, how does one judge if they’re getting a good value for their money?

      BMO North American Dividend fund – 1-year return is 14.83%, and the return since inception is 6.52% per year. (By the way, I’m seeing 14.80% and 5.30% on BMOs web-site:

      That must be a good value for money, right? Well, not so fast… A simple TD U.S. Index e-series fund returned 17.4% in 1 -year (to Feb. 28, 2013). While Vanguard Value ETF (VTV) 1-year return is 15.66% and 5-year return is 3.89% (compared to 2.43% for BMO’s fund). Does it perhaps have something to do with high MER of the BMO fund and it being an actively managed one? I bet it does.

    • Boomer on March 27, 2013 at 4:39 pm

      @Robert: Thank you for suggesting other options. The problem is most retail investors will not think to do the research to uncover anything other than bank or big mutual fund company names without having a competent advisor to assist them.

      Fees should not be the only factor in making any decision. As you say, overall value is what is more important. Actively managed Canadian mutual funds will hold the same financial, telecom and utility companies as index funds because those are doing well at present. Why pay extra fees for basically the same end product?

      I have heard that the best mutual funds to buy are not the top quartile performers (as most people will) but the ones at the bottom as they invariably cycle to the top over time and the top performers drop. Cynical, but possibly true?

      Once I had built up my mutual fund portfolio sufficiently (easy when thy were performing strongly several years ago) I switched to dividend investing instead.

  5. thefiscallyfit on March 27, 2013 at 11:12 am

    I like how it was stressed that there are other factors that weigh in on your investment decisions besides “fees”. The other thing that really gets distorted is the compensation model of your financial planner/investment professional through MERs. In most (but not all…) cases, whether the MER is 1.6 or 2.6, the planner gets compensated the same.

    • igra on March 27, 2013 at 11:26 am

      How about TD e-series funds with MERs below 0.5%. Financial planner/investment professional doesn’t get compensated at all and I get to keep more of my money for myself. 😎

      • thefiscallyfit on March 27, 2013 at 12:03 pm

        always an option although a lot of them are 2nd quartile funds over a longer periods of time even with the incredibly low MERs. IMO MERs are really only important if you are not getting excessive return or risk management from the fund haha (jks). I would gladly pay a huge MER if it mitigated large amounts of risk or the portfolio managers created excessive returns given that level of risk. The issue is that most don’t…. although some do… consistently.

        • igra on March 27, 2013 at 12:26 pm

          You must be a financial advisor! 😀
          Well, Canadian Couch Potato has a challenge for you: “If any advisor can produce a verifiable document from 2001 (such as client newsletter or a list of recommend funds) that contains one of the 15 outperforming funds, and they can demonstrate that at least one of their clients held that fund for 10 years, I will buy him or her a steak dinner. I’ll even throw in a potato.”

          • thefiscallyfit on March 27, 2013 at 12:51 pm

            full disclosure, CFP. HAHA awesome. I don’t know who on earth would ever have 15 funds making up their portfolios (haven’t came across any of those financial plans yet haha)but I look forward to my steak dinner lol 10 year period with outperforming funds that clients “stayed the course”… much more common when there is a formal financial plan in place compared to the usual “investment advisor” lol

        • igra on March 27, 2013 at 1:53 pm

          Just 1 outperforming fund that just 1 of your clients held for 10 years. That’s all it takes to claim the steak dinner. This can potentially generate a lot of good publicity for you. Call him (Canadian Couch Potato). I’d be very interested in reading about him eating his words while you eat the steak dinner on his dime. 😀

  6. Stephen at SE on March 27, 2013 at 1:28 pm

    Thanks for the post and all the back links. New reader here but I’m looking forward to going through all the older post to catch up. We invest in a lot of employer sponsored mutual fund options because we have limited options inside or 403b plan. I’ll bookmark your site and read though all the awesome advise when we start heavily investing on our own. It seems like a lot of advisers talk about mutual funds but the fee structures do seem to very heavily from fund to fund.

  7. Boomer on March 27, 2013 at 5:05 pm

    Why is it that any discussion of mutual funds invariably brings out volatile comments on MERs, value for money and whether actively managed funds can outperform an index? I note you both have strong opinions but you are way off topic. What is the topic? Merely that well chosen mutual funds can be a good fit for some portfolios and an easy and inexpensive way to begin investing.

    @igra: I took the figures from – I didn’t make them up. Obviously they can change depending on the time of posting. Also, I am not endorsing any products here – just providing an example. Further research should be done to see if any product is suitable.

    @thefiscallyfit: I still maintain that fees should not be the sole determining factor for any purchase but that doesn’t imply that you should just fork over the cash regardless. Successful investors minimize price, fees and taxes to the extent that they can.

    The truth is that many investors lose more money by constantly switching their money around to chase better returns than are paid in fees – and that doesn’t just apply to mutual fund investors.

    • thefiscallyfit on March 29, 2013 at 11:05 am

      I agree it isn’t just one factor that decides a successful investment. My comments were more directed to the mentality that mutual funds are not an investment tool for the wealthy or sophisticated as most commenters would dictate. They are simply one tool for a specific job and that is all. Not good not bad… and I commend you for stating that above. We are lucky enough to have so many options for our investments today. I just hope people can continue to decipher fact from fiction when it comes to “beliefs” about different types of investment vehicles. great article as always!

    • lgга on March 29, 2013 at 8:29 pm

      I agree with you. I hold some mutual funds (TD e-series) myself. And I don’t think that mutual funds are an inherently bad investment vehicle. I do think though that MERs are an important criteria for choosing a good mutual fund to take a place in one’s asset allocation. I think that in part due to research by Morningstar that concluded: “Investors should make expense ratios a primary test in fund selection. They are still the most dependable predictor of performance.”

      Indeed. Thank you for pointing that out (time dependence).

      So true! And that’s where a fee-only financial planner can bring the most value (helping to stick with a chosen asset allocation through thick and thin).

  8. Gary on March 27, 2013 at 6:56 pm

    Boomer, this post really works well for new investors and for those putting smaller amounts away each week, month or whatever. I started this way and gradually moved to “blue chip dividend payers” when I had enough in the fund to make a purchase worthwhile. Me thinks ONE of your readers missed the point of your post. Keep up the great work — I look forward everyday to yours and Echo’s blog.

    • Boomer on March 28, 2013 at 9:23 am

      @Gary: Thank you Gary. I also did the same as you. When mutual funds started being offered at banks the returns were often in the double digits and we thought that would never end. What dreamers we were 🙂

      • Gary on March 28, 2013 at 11:45 am

        No kidding! I started my work career with BMO in the late 60’s when checking accounts paid 3% and “true” savings paid 6%. I thought those rates where terrible but I would sure take them today! Although interest was calculated manually on your lowest quarterly or monthly balance. I was pretty poor in those days — I got paid twice per month — I still remember the amounts — $99. on the 15th and $104. at months end. Half a days pay today!!! Sorry to go off topic but makes you think.

  9. Bet Crooks on March 28, 2013 at 10:15 am

    Of course many people are invested in mutual funds through their defined contribution pension funds at work, too. They usually don’t offer ETFs, but fortunately the MERs on these mutual funds are often low as they are negotiated separately by the company with the fund provider.

    Mutual funds can definitely offer a starting point to diversification. And some well-managed balanced mutual funds perform much better than a haphazard portfolio of individual stocks.

    I suspect the biggest problem isn’t usually ETFs vs mutual funds, it’s the overall lack of saving for retirement.

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