Archive for April, 2007

Give Yourself a (Financial) Education

April 30, 2007


In a long-running rebate on the merits of Group RESP plans, a remark by a commenter touched a nerve:

To work with mutual funds or stocks, parents need to know what they are doing. This takes a lot of time and planning. I am too busy for that.

As you can imagine, I am not very sympathetic to the argument. If you are like me, you are exchanging eight hours of your precious time every weekday for a pay check and you owe it to yourself and your family to be an effective steward of your money. The reality of modern life is that, financially, we are on our own. Our retirement, our kids’ education and our general financial well being depends on how well we look after our money.

To become a successful investor, you should lay a strong foundation by taking the time to read a few good books. After that, you only need a few hours to devise an asset allocation, invest accordingly and spend about fifteen minutes every year to rebalance your portfolio.

If you have worked your way through my recommended books, you don’t have to sacrifice your leisure hours (unless you buy individual stocks or write a blog) to constantly keep up. Over the years, I’ve learnt both from reading and from experience that there are only a handful of rules for being a successful investor:

  1. Don’t take stupid risks.
  2. Diversify.
  3. Minimize expenses and taxes.
  4. Don’t trade too much.

That’s all there is to investing. Now, you can get on with gardening or photography or whatever with the confidence that you will do better than the vast majority of investors who are busy chasing the latest hot tip they heard on Market Call.

The Importance of Mutual Fund MERs

April 29, 2007


In response to a long-running debate on the merits of the Smith Manoeuvre, a financial planner made the following comment:

The best portfolio is a diversified portfolio, MER be damned.

What is MER?

The MER of a mutual fund or exchange-traded fund (ETF) refers to its Management Expense Ratio. It is calculated by adding up the management fees paid to portfolio manager, the trailer fees paid to your investment advisor, administration charges incurred in running a fund and GST/HST and dividing the total by the average value of assets in the fund and reported as a percentage.

For example, consider the XYZ High Fee Fund, which reported a MER of 3%. If the fund had an average of $100 million in assets, the MER implies that the fund cost investors in $3 million (3 percent of $100 million) in fees.

How is MER charged?

If you are a mutual fund (or ETF) investor, you do not pay MER directly to the fund manager. Instead, the fund manager deducts the MER from the mutual fund. In the example of the XYZ High Fee Fund, which has holdings totaling $100 million, the manager will effectively deduct $8,219 ($100 million x 3 percent ÷ 365 ) every day.

Notes on MERs

There are two items of note when it comes to MERs. First, MERs may be the biggest fees incurred by most investors but it is not the only one. Trading fees, for example, are not included in the MER but, nonetheless, it is a cost to the investor. Second, returns advertised or reported by mutual funds are always net of MERs. If XYZ High Fee Fund reports One Year returns of 5 percent, it means that an investor in the fund would have earned 5 percent over the previous year after indirectly paying all the fund’s expenses including MER and trading commissions.

Is MER important?

While the returns advertised by mutual funds already account for the MER, investors should still pay attention to how much fees they are paying because a higher MER does not mean a better product. In fact, many studies have demonstrated the opposite: the lower a fund’s fee, the better its odds of posting future returns that are better than average. As John Bogle likes to say: “in mutual funds you don’t get what you pay for. You get what you don’t pay for”.

The next time you are investing in a mutual fund, picking the one with the cheapest MER in its class will increase your odds of success. Better yet, you could simply pick the cheapest index fund.

This and That

April 26, 2007

  1. The Bank of Canada decided to keep interest rates steady and the prime rate charged by the major banks stays at 6%. The statement seems to indicate that the Bank will maintain the current interest rate in its next meeting.
  2. The federal government has enacted a legislation that drops the minimum down payment required to get a conventional mortgage from 25% of the value of a home to 20%. Earlier, the mortgage loan insurance would have cost 1% for a homebuyer who wants to get a mortgage of more than 75% but less than 80% of the property value.
  3. Ellen Roseman writes in The Toronto Star that mortgage life insurance is usually a bad deal for consumers.
  4. A report in The Globe and Mail says that “high costs, questionable benefits and lax disclosure regulations” of principal protected notes (PPNs) are attracting the attention of regulators and the federal government.
  5. Steady Hand’s Tom Bradley opines that foreigners are overpaying for our public companies and Canadians will have a good opportunity to buy back these assets at lower prices in the future.