Fund company marketing in high gear

By Dan Hallett, CFA, CFP on March 2nd, 2010

RRSP sales are shaping up to be rather sluggish.  And with financial markets getting a bit jittery, it’s no surprise that the fund industry’s marketers have shifted into high gear.  Here are two of the marketing initiatives that caught my attention because they appear to be disconnected from investment reality.

ROI’s cash-back offer

ROI fund, a labour-sponsored fund that is not only promoting what remains of the tax credits unique to LSIFs, but also offering an additional 10% cash back.  This is not a tax credit but a form of cash bonus – an incentive to invest.  The ability to fund this comes courtesy of a prospectus amendment that gives ROI Fund the option of pre-paying management fees in exchange for some discount.

Indeed, the year ended August 31, 2009 was the first time a “prepaid expense” appeared on ROI Fund’s balance sheet.  The prepaid fee as of August 31, 2009 was more than double the base management, advisory and sponsor fees charged to the fund.  The downfall of LSIFs began when Triax began the practice of paying trailer fees on LSIFs in 1996.  Then came the practice of paying advisors fatter up-front commissions of 10% on investments (equal to the typical 6% + four years of 0.5% annual trailers).  Could ROI start a trend of pre-charging management fees to fund cash back promotions?  I doubt it.  I expect Ontario LSIFs to die a slow death as the phase-out of its LSIF tax credit begins after March 1.  So, the industry probably won’t have a chance to make this a trend.  For further reading, have a look at my February 2009 article for on LSIFs.

(NOTE – February 9, 2011:  I never confirmed with ROI that the prepaid fees and the cash back offer were linked but it seemed a logical relationship given the timing of when each began.  In early February 2011, I received a call from ROI Capital telling me that the two items are quite separate.  ROI says that the prepaid management fee was done to get rid of the LSIF’s loans used to finance commission payments to advisors.  In a separate initiative, they say, the company founders personally funded the 10% cash back incentive.  I have not yet seen independent verification of this.  For instance, the fund’s total liabilities did not fall and its statement of cash flows did not list any debt repayment.  However, in the coming weeks, I will seek greater clarity on this issue and, perhaps, where this is evident in the fund’s financials.)

Fidelity’s inappropriate comparison

This more mainstream marketing effort comes from one of the world’s largest fund companies.  Fidelity recently circulated an e-mail campaign highlighting that investors in its Canadian Asset Allocation fund can have all of the returns of Canadian stocks with only 61% of the volatility.  What is subtly hinted-at in another Fidelity promo piece  is that this is mostly due to the fact that Canadian bonds (a big part of this fund) have produced comparable returns to Canadian stocks over the past 15 years (7.6% vs. 9.2% annually) but with only 1/4 of the volatility (4% vs. 16% annually).  And because bonds often zig when stocks zag, volatility has been dampened quite a bit without much of a performance trade-off.  But that was the past.

This promotion, while technically correct when looking at past returns, has the potential to set the stage for disappointed clients.  Fifteen years ago, government bonds sported yields north of 8%.  Today they are well below half of those levels.  With bonds yielding 3% and this fund charging 2.2% – 2.4% (depending on the series), it’s unrealistic to expect stock-like returns with nearly half the volatility in the future.  This sets unrealistic expectations, which is a sure path to disappointed investors.