For most Canadian investors, making the switch from high-cost, actively managed mutual funds to lower-cost, passively managed investments can be intimidating; it can also rack up substantial fees – mainly, deferred sales charges.
In many cases, it can make sense to incur these fees and move on – however, the thought of paying a large penalty to a mutual fund company does not sit well with most investors. If the latter sounds like you, I have outlined a number of steps that will assist you in reducing the impact of, or completely avoiding these deferred sales charges. We will assume in the examples that the investor currently holds the following investments in their RRSP.
Sources: CI Investments Inc., Fidelity Investments Canada ULC, Invesco Canada Ltd.
Step 1: Create an Investment Plan
This can be as simple or as complicated as your situation requires – as a minimum, you will need to determine a target asset allocation and choose a “wishlist” of investment vehicles that you would implement if you weren’t currently handcuffed to your actively managed mutual funds. In the example below, a balanced ETF portfolio has been chosen (consisting of 40% bonds and 60% stocks) with a total market value of $250,000.
Sources: BlackRock Canada, Vanguard Group, Inc.
Step 2: Collect Data
This next step will involve contacting every mutual fund company that you are currently invested with to determine the following:
• Total number of free units or total market value of the fund currently available to redeem free of charge
• Any additional units maturing in the current year
• Total deferred sales charge on full redemption
• Final maturity date
At the beginning of the call, ensure that you write down the date and time of your phone call, as well as the name and extension of the client relations representative you speak with. Most fund companies record all calls, and if a mistake is made, determining who is at fault will not be an issue (as long as the fund company can easily locate the recorded call).
Step 3: Sell all Free Units and Front-End (FE) Funds
In the example above, we will assume there were no free units available for the CI Signature Canadian Balanced Fund, Class A (CIG785) or the Fidelity Global Asset Allocation Fund, Series A (FID349). All units of the Trimark Global Balanced Fund, Series A (AIM1773) are not subject to deferred sales charges, so will be sold immediately.
Step 4: Switch Remaining Units to Bond Funds
Switching any mutual fund units still subject to deferred sales charges to lower-cost bond funds from the same fund family can help reduce costs and simplify a portfolio. It is also less probable (though not impossible) that a bond fund manager will underperform his benchmark by a large margin, relative to an equity manager. In our example, I have listed two options below that could be considered (I have also included a list of bond funds from various companies that you can research and consider for your own personal situation). I would recommend calling the fund company before switching funds to ensure no charges will be levied (and that the switch is allowable).
Sources: CI Investments Inc., Fidelity Investments Canada ULC
Step 5: Purchase New Investments with Cash
Now that we have $150,000 of cash available from the sale of the Trimark Global Balanced Fund, Series A (AIM1773), we can purchase $50,000 each of XIC, VTI and VXUS. This results in the following semi-passive portfolio with a significantly reduced MER of 0.76% (relative to the original MER of 2.57%).
Sources: CI Investments Inc., Fidelity Investments Canada ULC, BlackRock Canada, Vanguard Group, Inc.
For this particular investor, the annual cost savings is $4,525 [$250,000 × (2.57% - 0.76%)]. Going forward, the investor will need to contact the remaining mutual fund companies at the beginning of each year to determine what amount they can sell from the funds without incurring any deferred sales charges, and make the necessary trades (the proceeds can then be used to purchase the iShares DEX Universe Bond Index Fund (XBB) as originally planned).
As the example above illustrates, with a little ingenuity, you can begin to reduce your fees considerably without incurring the dreaded deferred sales charge. Although this example is relatively straight-forward (and does not consider any tax implications of switches or asset location decisions), it should still be a useful guide for the average investor who is fed up with high-fee mutual funds.