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Are U.S. funds really cheaper?
Myths and truths about fee differences

I often see media articles state that U.S. fund fees are half of Canadian fund expense ratios. Those defending higher Canadian fees cite our segmented regulatory regime and the need to register with ten different provinces and three territories - and file all documents in two languages. No doubt this adds a layer of costs not present in the U.S. but the fee difference isn't as big as it seems; and regulation isn't to blame for the bulk of Canada's higher fees.

Industry differences

In Canada, most mutual funds are sold through bank employees, financial planners, and stockbrokers. In roughly 90 percent of the cases, the advisor selling the funds is compensated via commissions that are embedded into its fees.

Several years ago, Canadian mutual funds came in multiple classes - depending on the level of commissions built into each. For instance, class A units were front-end only funds, meaning that any up front commissions would have to be charged outright against the amount invested. But they still had a small, ongoing commission (i.e. trailer) built in.

Class D units were sold with a deferred sales charge (DSC) and a stated level of trailer fees. Because of the up front commissions paid by the fund company on the DSC, this class of shares carried a MER that was roughly 0.75 percentage points higher than the class A shares of the same fund.

In other words, the difference in fees was entirely attributable to differences in commissions built into each. The industry scrapped this multi-class structure by 1996, claiming it was "too confusing" for investors. There was some truth to that. Today, funds carry the fees attached to the old class D shares, but offer the option of buying either on a front-end or DSC basis. Either way, you pay the higher fee.

In the U.S., this multi-class share is very popular for two reasons. First, do-it-yourself investors are much more common in the U.S. Since they aren't expected to pay advisor-type commissions/fees, they simply pay a fee to buy and sell funds, just as they would for stocks.

Second, financial advisors typically recommend funds with no commissions or trailers attached - similar to Canada's F class shares - and choose to be paid by tacking a percentage fee on top for the services provided to clients. So, they actually break out the advice fee separately.

In short, the assertion that U.S. funds are half as costly as Canadian funds is based on an unfair comparison - i.e. between a Canadian fund with full advisory fees included, and a U.S. fund including little or no advisory fee.

For a refresher on Canadian fund fees, see this older article.

Apples-to-apples

Fidelity Worldwide fund is a U.S. based fund, which is quite similar to the Fidelity International Portfolio available to Canadian investors. Fidelity Worldwide carries a MER of 1.05 percent, while its Canadian counterpart costs 2.52 percent annually.

Fidelity Worldwide, however, pays no trailer fee or other commission. So, adding a full percentage point is the only way to make a fair fee comparison. So, instead of being more than double the cost, the U.S. fund (at 2.05 percent) is 47 basis points cheaper than its Canadian cousin. That no chump change, but it's a far cry from double.

Mackenzie Financial Corporation is one of Canada's largest fund companies, but has a small, emerging U.S. fund operation called Ivy Funds.

Its Ivy European Opportunities is virtually identical to the Canadian-sold Universal European Opportunities. The U.S. Ivy fund carries a MER of 2.91 percent while the Universal fund costs 2.58 percent annually. These are comparable because both build in a similar amount of compensation for financial advisors and are otherwise the same fund. But, in this case, the U.S. fund is more expensive.

Finally, take a look at Templeton Growth fund, which is available in both countries under the same name. The U.S. version carries costs ranging from 0.9 to 1.89 percent. The cheaper version offers no built-in advisor compensation, while the more expensive one does. The more costly version (class C shares in the U.S.) is comparable to the Canadian offering of the fund, which carries a 2.26 percent MER.

Conclusion

Admittedly, my illustrations cover a very limited sample of funds. However, if you use a financial advisor and really want a fair comparison of costs, you'll find that Canadian products cost about 30 to 50 basis points more, on average, than similar U.S.-sold funds.

To do your own comparison, www.morningstar.com is a great source. And it will help to know that a 12b-1 fee on a U.S. fund is analogous to a trailer fee paid on a Canadian fund.

The "twice as much" assertion only applies if you neither want nor need advice. But even then, there remain good funds from low fee firms such as Saxon, PH&N, and Mawer that you can use to get exposure and minimize fees.

Dan Hallett, CFA, CFP is the President of Dan Hallett & Associates Inc. in Windsor Ontario. DH&A is registered as Investment Counsel in Ontario and provides independent investment research to financial advisors. He can be reached at dha@danhallett.com
 
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