Invesco Canada blog

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Peter Intraligi | July 6, 2017

How minor changes could achieve regulatory goals

We recently submitted another comment paper to the Canadian securities regulators regarding the ongoing consultation over the future of embedded compensation.

We remain steadfast in our advocacy of choice and transparency in the marketplace, and believe that a ban on embedded compensation would cause more harm than good.

I believe there are regulatory changes that would still achieve the regulators’ goal while avoiding throwing the industry into disarray.

In our latest submission to the Canadian Securities Administrators (CSA), we suggest that the regulatory concerns set out in the CSA’s paper can be addressed with the following:

  1. Prohibit the deferred sales charge (DSC): This purchase option was created with good intentions, but while the industry and commission structures have evolved, the DSC has not. The DSC can help maintain investment discipline, but it remains open to abuse – whether by using it with elderly clients or clients with shorter-term goals. It can also create a compensation conflict when assets at the end of the DSC schedule are re-characterized as front-end load assets that pay a higher trailing commission. These conflicts of interest are very difficult, if not impossible, to overcome simply through better disclosure. For these reasons, the CSA should prohibit the DSC.
  2. Set (rather than cap) trailing commissions at 1%: Setting commissions at 1% would remove the perception of conflict – the notion that an advisor may choose one fund over another due to higher compensation. This measure would be as effective as a ban, which would effectively set the commission at 0%.

We also challenge certain issues in the CSA’s consultation paper. For example:

  1. The CSA’s consultation paper suggests that advisors only focus on funds that pay a trailer, but I believe this presumption is mistaken. In fact, in today’s market, we know that fee-based accounts generate more revenue on a more consistent basis.
  2. We question the CSA’s assertion that investors do not know what they are paying for investment advice. The consultation paper was written and released before CRM II statements became mandatory. This suggests that the CSA lacks confidence in CRM II, which mandates full disclosure on costs and performance. Not only is this premature but since the publication of the consultation paper we have seen evidence that suggests CRM II has been quite successful on this point. I believe CRM II was (and will continue to be) a regulatory success and provides clients with good disclosure on the cost of their investments.
  3. The CSA’s assertion that investment fund managers rely on trailing commissions for sales, rather than performance, is demonstrably untrue.
  4. The regulators’ belief that fee-based investors with smaller accounts will pay less by negotiating lower fees is dubious speculation.
  5. The notion that embedded compensation raises unfair barriers to entry in the industry is virtually unsupportable, as demonstrated by the proliferation of ETF providers and robo-advice platforms. These new entrants have not found embedded compensation to be a “barrier”.

It’s also somewhat disappointing that regulators, in their consultation letter, suggested that smaller investors should limit themselves to passive strategies. While passive investment strategies certainly provide many benefits, we believe actively managed strategies also play a vital role for many investors in pursuing their long-term financial goals. I believe the endorsement of one approach over the other is unprecedented and, frankly, paternalistic.

In my opinion, banning embedded compensation would lead to the further consolidation of the financial services industry, with control of Canadians’ savings concentrated into the hands of fewer and fewer companies.

Destroying competition is certainly not in the best interest of investors.

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12 responses to “How minor changes could achieve regulatory goals

  1. Over 35 years in the business. Not one complaint from clients over fees. The NAV, what they keep is the key. It seems many more clients face higher fees with the proposed transitions. How does one place a 1% fee on assets….including fixed income? Keep it simple…1% embedded fee for trailer. Only allow LL for a fee and prohibit re commission at maturity. Stay in touch with clients. As a CFP. provide financial roadmap and clients will appreciate your work. Thanks Peter at Invesco for your support.

  2. Been in the industry since 1989 about when DSC was launched. This was a time when 9% front end fee was charged so the DSC was a tremendous savings to the client. Still tell clients no front charge on DSC or they can pay 5% up front and their fund initially is 95% efficient. They like and understand no initial cost; simple.
    Obviously the regulators are highly influenced by the banking industry who have been crying that their clients have been absorbed by the independent financial advisor. Fee, fees, fees ………. is all we here. Sick of that and I don’t work for free even though I’ve spent many hours giving ‘free’ advice to people who are looking for a way to try to manage their zero service GRSP.

  3. I have been in the industry for over 20 years and have seen a lot. Yes there are good advisors that go the extra mile for their client and there are some that just invest the money and have nothing else to do with then until that fund matures. Then they meet and reinvest it into something else where the advisor will get paid again. Perhaps this is were things went wrong? I do not agree on this method either, but for the advisors that meet with their clients on a regular bases and build a trusting relationship we are being robbed of our income. How much does a regulator get paid ? would they like to work for FREE which is what they are asking of us and taking the privilege away from those who would like to work with an Advisor but can not because we will not be able to afford to take them on.

    From experience if you explain to the clients how you get paid and the various Load options FE/LL as we do not use DSC anymore they have a choice as to what fits best for them. In the past when we were selling DSC I noticed clients that wanted to take money out of a RRSP would think twice because they had to pay a larger fee. This allowed them to keep the money in place and build for retirement . Clients that have shorter Load times don’t care say that it is nothing and easily pull money out . Just an observation.

    If they take away the trailers and we are forced to put all client’s into a Fee Base account , this could become interesting as I have heard and seen some account’s being charged over 2% commission , now how is that fair for the client?

    I think the Regulators as well need to revisit what happened in the UK when they decided to get rid of Trailers. It was not what good for many advisor nor clients and this was proven as I attended a conference were a well known Advisor from the UK told how it all played out and how it is still harming many people who want to invest but can not and advisors that can no longer earn a living.

    Personally I feel we are working harder for our money with the new rules and regulations and that is fine , I have always explained how I get paid and also explain the investment the client is going into, the amount of extra paper work every time there is a change is time consuming not to mention the decrease in our pay and the larger cut we have to give to the company we work for do to increasing cost because of the changes. Bottom line the advisor is getting less and less only to work much more.

  4. Well written, and for the most part well thought out prior to putting pen to paper. One could only wish that not only do we have some form of input into this ongoing debate, but that the parties we are seeing determine the course of our business (MFDA, CSA, etc.) going forward have a little more practical input to their decision making process.
    One more point/comment. It would be nice to know when we might see the evolution of only one governing body that will determine policy for all of the industry, and at the same time ensure that it is a level playing field for all parties participating (advisors, brokers, consumers. etc.)

  5. Taking on a new client properly requires at least 10 hours of work to complete a financial review, determine recommendations, explain recommendations, explain disclosures, prepare and explain all forms, process the initial transactions and follow-up to ensure accurate completion. It takes two or three appointments with the new client. Meanwhile the clock is ticking and Advisors have expenses to pay; I need $100 per hour to cover my expenses with a little bit of take-home pay. So it costs me about $1,000 to take on a new client. Banning the DSC means I get nothing up-front to cover my expenses. New clients would need to invest a minimum $100,000 just so that I could recover my initial cost in one year and considering ongoing expenses would break-even after two years. Despite my best effort, if a client changes their mind after six months then I am losing a lot of money. Should a credible financial advisor run a business this way – smart with advice yet dumb as a business owner? It would be impossible for new financial advisors to join this industry unless they are already wealthy enough to purchase an existing book of business.
    A better choice would be to continue with the LSC option yet with any deferred sales charge to be charged back to the Advisor. After three years the service (trailer) commission is automatically 1% on growth funds. IA Clarington does this with their L-series. It allows the Advisor to receive an up-front commission to cover initial costs AND ALSO encourages the Advisor to provide great service meanwhile no clients are at any disadvantage.

  6. 23 years in the Financial service industry. I think I can count on my hand the number of complaints that I have had about the DCS version of a fund. If explained properly, It sounds as though the MFDA or the OSC has absolutely to faith in the adviser to do so. I wish someone from either organisation would come with and adviser on an appointment, the time it would take to explain every option , version or Investment scenario would take hours. At the end of the the night the customer would be more confused than at the beginning of the evening. When I go to a Doctor he/she does not give a “Fund Facts” of the medicine he/she provides , I accept his/her suggestion and go.

    Why is it that the MFDA and the OSC does not honor that fact the we all passed a test that says we are capable of offering solutions to clients? If we band DCS’s how is a new person going to start in the business. They will go from making 3 to $5,000 on a $100,000 sale to approx $83.00 per month.

    The subject of Titles is also confusing. To most of my clients my title is Anthony, The Insurance guy, My money guy, Investment dude. The title on the card means absolutely nothing to the client, it’s the relationship and trust you build with the client. The letters that come after your name are lines that fill up the card.

    I think the MFDA and the OSC should just make a decision and get on with it. Why put 1,000’s of Advisers through all this nonsense. I truly believe that they have already made the decision, all these discussion papers are a make work project to make us think we have some sort of say in this matter.

    If you ask a client about all the the regulatory change that have already happened here is what most of them would say…”What changes? All I want to know is if I have made money or lost money”

  7. I feel that the present practice of having so many options like DSC, ISC, Low Load, F Series etc is quite difficult for all investors to understand and the advisors may sometimes not explain all the options to the clients and present to the clients the model that is best suited to advisor. Also the advisors may limit explaining all the options to clients because the clients will always like to have more flexibility and minimum cost/fee for redemption of their investments at short notice even though their investment objective is long term investment.

    In order to have more clarity & simplify the system, I feel that following provisions could be considered:
    1) Instead of having so many options like DSC, ISC, Low Load, F Series etc there should be only one type of mutual Fund with no upfront or front end commissions.
    2) There should be redemption charge of 2% for redemptions within one year. After 1 year there should be no redemption charges. This will discourage frequent switches from one fund company to another or one advisor to another and also compensate the advisor for the initial work done by him to start the account.
    3) There should be embedded trailer commission of 1% for all fund companies across the board so that advisors are not tempted to invest in funds that are paying higher trailing commissions. Also, this will avoid fee negotiations between client & advisor and undercutting of fees by advisors to grab business. Further, lot of administrative work of raising the annual invoices and collecting the same from clients can be avoided.

  8. It is nice to hear industry stand up for advice and advisors. Thanks for that. The whole idea that a compensation structure causes conflicts of interest is flawed in my mind. A compensation structure simply “is”. How Advisors interact with the compensation structure is the issue. How Advisors treat their clients is an issue. And if the Regulators get their way and ban this structure, there will simply be another compensation structure that Advisors must interact with. And if they try to maximize their revenue from it, it becomes another conflict of interest. It wont take long for the Regulators to pick up on this too.

    The problem the Regulators have, seems to be: that we get paid at all, that we provide no value and that these costs are only detrimental to consumers. It is too bad that these people who provide the framework for our industry are so far removed from what we do and the value we bring. It is too bad that Advisors are not represented in policy development for the industry. It is a shame that they are excluding Advisors as part of their overall policy process.

    A simple solution to all of this is increasing Advisor professionalism. But our problem is that organizations like the FPSC and Advocis (for instance) or Stock Brokers and Insurance Advisors (for instance) cant get along well enough to create a public face to bring our message forward. It’s time we get together, find our common ground and take a strong message to the CSA that we can manage our professionalism ourselves and that we don’t need them to micromanage our day to day activities. A code of conduct with a best interest principle will address 90% of their concerns.

  9. As an advisor with 20 years in the industry, I deeply appreciate your efforts to provide a rational, logical response to those regulators who seem bent on limiting choice to Canadian investors by eliminating embedded commissions. I only wish that those same regulators had a rational, logical framework within which to consider your treatise.

  10. Thank you for a lucid contribution to this important subject. While I disagree that compensation of any type (DSC or service fee) should be set by regulation as it can only stifle competition, it would be infinitely less damaging that a ban on embedded compensation.

  11. I think banning the DSC (or LL etc) would lead to less choices available to investors.

    An advisor spends a lot of time to construct a portfolio and build up relationship with an investor in the early stage of building up a portfolio and then relatively less time after that. The current structure of DSC plus trailer fee is consistent with the level of workload of an advisor provided to client. Taking away DSC would discourage advisor to take up small clients.

    Also some investors may transfer their portfolios to other brokers (such as discount brokers) after the portfolios were set up. Hence the advisor may do most of the works and then does not get paid fairly. There is nothing to stop investors to do so. DSC arrangement would give advisor their fair share. If DSC is banned, advisor may have to charge an upfront fee. That would leave the client with less money to invest. That is not good for client.

    As a whole, it appears that some regulators and commentators think that something is good for them must be good for everyone. They may rule out that some investors actually prefer the DSC and trailer fee model and does not like the upfront fee and annual fee model. Taking away DSC is taking away the right to choose for these investors.

    We have already started to see some brokers and advisors charging clients fees (say 1.5% to 1.75%) way higher than that in the case of the embedded model. Some charge upfront commission of 1% to 5%. The embedded model can be less expensive than the upfront fee and annual fee model.

    The other part of the equation is the service level provided to client by advisor. If the fee is capped, some advisors may reduce their services to clients or not taking small clients. As far as I know, the average income of an advisor is not excessively high comparing to other professions. The advisors have to survive well in order to serve investors. The new proposed rules may drive more advisors out of the business and discourage new advisors, leaving investors less choices and higher fees.

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