Canadians pay some of the highest mutual fund fees in the world. Morningstar’s Global Investor Experience Study reports that the average fee for the typical mutual fund in Canada is around 2%, compared to 0.6% in the US.
It’s even worse for those who get their mutual funds from a commission-based advisor like you would find at a bank. The Average in Canada is 2.04% for allocation (stocks and bonds) funds, 2.28% for equity (stocks) funds and 1.49% for fixed income (bond) funds.
Let’s take a look at Canada’s largest mutual fund: the RBC Select Balanced Portfolio. It’s a typical “balanced” fund in that it holds 60% equities and 40% bonds. It’s management expense ratio (MER) is 1.95%. This represents the total fees charged by the fund, including management fees and transaction costs.
You pay 1.95% of every dollar you have invested in this fund every single year. That may not sound like a lot, but it is.
Suppose you are nearing retirement and have a $500,000 portfolio. You would pay $9,750/year or $813/month in fees.
You can find balanced funds with much lower fees. The iShares Core Balanced ETF (XBAL) holds 60% equities and 40% bonds and has an MER of 0.2% on a $500,000 portfolio that is $1,000/year or $83/month.
That’s a pretty big difference. Who wouldn’t want an extra $730/month. But this comparison understates the difference. The fees you save with the lower-fee remain part of your investment and continue to generate investment returns.
Let’s assume that you invested $10,000/year and you earned a 5% real (after subtracting inflation) rate of return per year. After 40 years, you would have $1.2 million.
Now assume that you invested $10,000/year and earned a 3.25% real rate of return per year. That is the 5% return in the first example minus the fee difference (1.75 percentage points) between the two balanced funds above. After 40 years, you would have $800,000.
That’s a $400,000 difference. Put another way, reducing your investment fees in the second example by 1.75 percentage points would have increased the size of your portfolio by 50%.
An additional fee of 1.75% is devastating for your retirement portfolio. Most Canadian’s don’t understand that, and just keep paying. But they will go to war with their bank over a $10/month chequing account fee.