Investors in Canadian mutual funds pay a steep price for underperformance. In a 2015 Morningstar report on mutual fund fees, Canada ranked dead last among 25 nations – with expense ratios on equity mutual funds averaging 2.35 per cent in Canada versus an average of 0.84 per cent in the United States.
Couple that with another sobering statistic: Canadians held $1.23 trillion in mutual funds as of October 31st, 2015.
Morningstar also found that about $37 of every $100 invested in equity mutual funds sold in Canada are in closet indexers: funds which are supposed to be actively managed but actually “hug” the market benchmark.
Most consumers believe that you get what you pay for but, when it comes to investing, higher costs don’t correlate with better returns. In fact, academic research tells us that lower-cost funds outperform higher-cost ones over the long term and that the best predictor of future returns is the expense ratio.
I put that to the test when I looked at four TD e-Series funds – which happen to be Canada’s lowest cost index mutual funds – and compared them to TD’s more expensive (and more widely sold) mutual fund cousins:
|e-Series fund name||10-year annual return %||10-year growth of $10,000||Management Expense Ratio (MER%)||Total fund assets (millions $)|
|TD Canadian index e-Series||5.36%||$15,865||0.33%||$1,141|
|TD Canadian Bond Index Fund||4.54%||$15,554||0.50%||$663|
|TD U.S. Index Fund||8.27%||$21,757||0.35%||$1,058|
|TD International Index Fund||4.80%||$15,756||0.51%||$465|
|Mutual fund name||10-year annual return %||10-year growth of $10,000||Management Expense Ratio (MER%)||Total fund assets (millions $)|
|TD Canadian Equity Fund||4.82%||$15,113||2.17%||$2,919|
|TD Canadian Bond Fund||4.25%||$15,092||1.10%||$12,703|
|TD U.S. Large-Cap Value Fund||6.27%||$18,176||2.38%||$1,319|
|TD Global Shareholder Yield Fund||4.61%||$15,046||2.55%||$816|
An investor who contributed $10,000 into each of the four TD e-Series funds 10 years ago would have $5,503 more today than an investor who put the same amount into TD’s more traditionally-sold family of mutual funds.
Not only that, the e-Series investor pays just $287 per year in fees today due to the portfolio’s low 0.42 percent expense ratio. That’s nearly one-fifth the cost of TD’s actively managed mutual fund portfolio.
So if an investor can make more money and pay less fees by investing in a portfolio of index mutual funds, why do the four actively managed mutual funds outsell the e-Series funds by more than a 5-to-1 margin?
That’s a question more Canadian investors need to ask of themselves and their advisors.