Financial advisors throughout Canada are terrified. The Client Relationship Model (CRM2) is coming quickly, and it means that advisors will be obliged to disclose their fees and charges to clients. The non-disclosure of fees has been a quiet issue for years in the Canadian financial services industry. Most investors don’t even realize that when they buy a mutual fund, the cost of ongoing financial advice is built into the management expense ratio (MER). It’s bad enough that Canada has the highest average MER in the world at well over 2%, many Canadians are also paying for advice that they aren’t receiving.

Disclosure is terrifying to advisors because when clients start to see the dollar amount that they are paying for advice each year, they will want justification. With the popularity of low cost ETFs, and the development of algorithm-based advice in the US, there is downward fee pressure coming from all angles.

Financial advisors are not fools.

There has been a big industry push over the last few years for commission based advisors to prepare for the impending disclosure requirements. Part of this preparation has been a shift toward F class mutual funds. F class funds separate the advisory fee from the management expense ratio; when an advisor uses an F class fund, the client pays them directly. This eliminates the conflicts of interest present when advisors are paid commission by a product, and it also forces the advisor and client to agree on a fee that is fair relative to the level of service being provided.

I can’t predict how commission based advisors will transition into the fee based world, but I would imagine that the standard 1% advisory fee will continue to be prevalent. With this in mind, I decided to look at Morningstar’s database of F class mutual funds domiciled in Canada. I found that the average MER across all F class funds (excluding money market funds) is 1.29%. This means that even if an advisor decides to discount the advisory fee to .75%, the client is still paying, on average, over 2% in fees. There are some mutual fund families that do offer low costs; DFA funds come in with the lowest MERs, followed closely by TD’s series of F class index funds.

Around 75% of financial advisors in Canada are only licensed to sell mutual funds, making it that much more difficult for investors to find unbiased advice at a reasonable price. IIROC’s CRM2 disclosure requirements are moving advisors away from commissions to a fee based model,  eliminating an inherent conflict of interest. It is a step in the right direction for financial advice, but unless investors demand a low-cost market-based approach from their advisors, it won’t stop Canadians from pouring money into expensive mutual funds.