Recently published research on mutual fund commissions’ influence on fund flows led by Douglas Cumming, finance professor at the Schulich School of Business at York University in Toronto – and the related Frequently Asked Questions document – has triggered passionate responses like nothing I have seen in my career.
The research found that commissions and “related dealers” (those affiliated with fund manufacturers) result in higher fund flows regardless of portfolio performance. The fund industry – and financial advice providers – downplayed the report, urging regulators to do more analysis before making any policy changes. Some financial advisors are under the mistaken impression that banning commissions means having to work for free.
Investor advocates want commissions – and the conflicts they create – gone. Let’s call a time out to get some perspective.
The industry created the very problem it faces. Three years ago, I wrote that the industry’s automatic “no” response to virtually every investor-friendly proposal risked bringing on the very commission ban the industry fears.
The industry also seems uninterested in facing some of its biggest worries. I spoke at the industry’s 2008 annual conference on challenges facing the industry. I focused on equity fund investors’ rate of return, which I estimated was roughly equal to returns for GICs for the 15 years through July 2008 (before the worst of the bear market). I received few questions and was never invited back.
Yet, the industry has a history of springing to action to fight investor-friendly proposals. Each time such an idea surfaces, the industry seemingly puts up roadblocks rather than making suggestions to move proposals forward.
Glorianne Stromberg’s ground-breaking papers in the 1990s were batted down for the most part – although some recommendations were implemented. The original concept paper for the fair-dealing model (FDM), started in 2000 with an Ontario Securities Commission committee, was published for comment in 2004; the FDM included a proposal to ban commissions or provide full cost transparency. Industry lobbying kicked the commission ban to the curb. The FDM was diluted before its 2009 implementation.
Ontario’s financial planning rule – seemingly poised for implementation in 2001 – was lobbied to death. The second phase of the client relationship model (CRM2) will kick in this July – more than 16 years after the initiative was born. CRM2 started as part of the FDM, but the full transparency envisioned by the FDM was watered down to CRM2’s partial cost disclosure.
The industry had many years to act as real fiduciaries toward their true clients – the end-investors. (Note that mutual fund firms are fiduciaries.) That means dealing honestly and openly with the people who trust the industry with the prudent management of their life savings.
I spent several years working for or closely with investment dealers and advisors. Commissions influence recommendations. That’s a problem, because we still have many products that pay above-market commissions. It’s not that advisors should work for free. But had the industry voluntarily implemented a transparent disclosure regime, it would have had more control over the definition of “transparency.”
Having missed that window of opportunity, rules will be forced upon the industry. And it has nobody to blame but itself.
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