The Value of MERs and TERs
First of all, let’s explain what MERs and TERs are.
MER stands for Management Expense Ratio. The management expense ratio is usually measured
in percentages. That is a percentage of the pool of funds being managed on behalf of the participating investors is attributed to the expense of managing and investing the funds. This is a charge
against the funds assets and therefore is not directly charged to the investor.
The TER stands for Total Expense Ratio. These costs consist primarily of management fees and
additional expenses such as trading fees, legal fees, auditor fees and other operational expenses.
The total cost or running the fund is divided by the fund's total assets to arrive at a percentage
amount, which represents the TER. This total expense ratio is deducted from the funds total performance in order to arrive at the gross investment return to the investor.
Now, let’s answer some of the most frequently asked questions about MERs and TERs
•Why should any one pay for Professional money management?
This is the question often touted by those who from time to time tend to get fortunate in making the
right call on a superficially investigated stock. Of course, there is nothing wrong with managing your
own investments, but time and again I have stated that for a part timer to beat the market consistently
is next to impossible. If you have a full time job, don’t have the financial education or the experience
to leave emotions out of the equation surely you will suffer financial losses.
Of course there may be times when one may get lucky. When this happens you hear it from those
investors who outperform the market on their own. I liken this to the casino player who tells you of
his winnings but not necessarily will he share his losing experiences with you. To beat the long term
returns of the market without taking on excessive risks of loss and to do so consistently, is extremely
difficult unless you have the education and experience to actively manage these investments.
•Is it true that very few funds are able to beat the underlying index of investments and that therefore
it may be better to use index funds?
It is true that if you use index funds you are almost certain to get the performance of the index minus
the expense to run the fund. Therefore you are paying to perform below the index. It is also true
that if you use funds that mimic the index that your investment will return less then the index. However, in a recent study conducted by Mornigstar, it was found that eighty percent of quality actively
managed funds will consistently beat their relatively benchmark and many times at a reduced risk
from the index. Now this is money well spent!!
Eighty percent of the funds that are actually managed will consistently beat the index, you are then
paying to have your funds outperform the index and to accomplish that with lower risk.
•Why is it then that so many people have opted to invest their own funds?
When times are good, when the bulls are running and there is no one that can stop them; many investors simply ride the wave and feel invincible, they begin to pick those stocks that sound good or
that someone said will perform well and they forget all about fundamental analysis and value investing and by simply taking a ride in a runaway train they feel they can outperform any money manager.
Then they ask themselves, why should I pay MERs?
Once decided that professional money managers are not required, investors find themselves like
many after the tech bubble, wondering, what happened to that train? It simply ran out of tracks and
down the financial abyss it went. They forgot about fundamental analysis and value investing.
•Why then should investors use a fund that charges MERs?
The answer is to accomplish financial success. What is it that we as investors are trying to accomplish? Don’t we all want the same outcome? Do we not want reasonable returns with limited risk?
The confusion is around the word risk.
Defining risk is the most misunderstood part of investment planning. It appears that when the markets are on a tear that investors feel good and feel there is no risk. This cannot be further from the
truth. We are at this time facing this dilemma. Everyone feels good and risk is not fully understood.
For example, if I were to ask any investor what a principal protected note is, they would probably say,
well it is a note that protects my funds and gives me upside potential. That is the extent of their understanding and they don’t really have understanding of the underlying make up of the protected
note. Not fully understanding is where the risk is found.
Many of these investors participating in these protected notes may find themselves five or eight
years from now getting just what they understood which is the return of their capital and no real
return on their funds. There is no analysis of the investments or the fundamentals of the underlying
investments. There are simply good investments and nothing can go wrong and nothing goes wrong
of course until it does. And when it does, it does, and it does often enough to punish the unconverted
time and again. We need these professional money managers to reduce the risks that are inherent
in any type of investment. Beware though that not all investments are designed the same. We can
assist you in identifying those quality investments that have consistently outperformed.
•Is it that difficult to put an investment portfolio together?
Putting together an investment portfolio is not difficult, but it certainly is not easy. If you have all the
training and experience, if you have been through the bears and the bulls and are able to identify a
good company, its business, its competition, its weaknesses, difficulty in market penetration, its opportunities and financial strength and once you have done all this you get to know the CEO and the
Board of directors and you know the management team and that of the competition, and you know
the people behind the slogan, then you can say that by simply sticking to tried and true investment
principles you can consistently outperform.
•Why is all these important?
Think of it this way, by investing in a few companies, you are actually hiring the CEOs, CFOs, Management and boards of directors to work for you. How can you hire these people by simply looking
at a set of reports? How can you quantify a financial report without the proper training? How can
you know the business and its competitors without the proper education in these fields? How do
you know the psyche of the market to which the business supplies its product or service? How do
you know how the CEO feels? What is his personal life like? Can his personal life affect your investments? Do you have the time to complete this in depth analysis? What about the personnel? How
competent are the people that make up the company? On and on these are all important issues that
will affect your investment. Do you know how political decisions, interest rates and international issues will affect your investment?
Of course this cannot be done by one person full time. It actually takes a team of professionals to
be able to properly analyze the suitability of investments. Do you have a good team in place?
We can identify these people for you and assist you getting experienced money managers working
for you. The best of the best have their own money invested in the fund that they manage. All this
work can be done on your behalf for a relatively small fee. A fee that pays for the proper planning
of your investments and the ongoing growth of your assets so that you can retire comfortably and
are able to transfer your assets to the next generation or your favorite charity in very tax efficient way.
MERs allow for the proper management of you investments and the protection of your assets.
Protection and growth through understanding.
Knowledge reduced risk and MER’s that give you access to ongoing knowledge. It isn’t high MER’s
that will protect your assets, it is knowledge. MERs are your protection against catastrophic results.
To try to manage your own investments is like trying to self medicate. Let me give you some examples:
Fund A: Ten year return (Chou RRSP)
Benchmark SP / TSX Composite Ten year return
16.2.9%
10.9%
Fund B: Ten year return (PH&N Dividend)
Benchmark: SP/TSX Composite
15.1%
10.9%
Fund A: Ten year return
(Norrep)
Benchmark: BMO Small Cap Weighted
23.6%
11%
The above returns have been accomplished at a lower risk then the relative benchmark.
Fund B: Ten year return (Sceptre)
Benchmark: BMO Small Cap Weighted
Now for international Equities
Fund A: Ten year return (Mawer World)
Benchmark: Morningstar International Equity
Fund A: Ten year return (Frontstreet)
Benchmark: Morningstar natural resources
16.8%
11%
8.3%
4.3%
18.6%
12.4%
The above rates of return are as of June 30th, 2007 and have been obtained from Paltrak
As you can see, it pays to have a seasoned investment advisor working for you.
We can help you build a portfolio of investments that makes sense and that will mitigate the inherent
risks of the market.
The foregoing is for information purposes only; and is the opinion of the writer. This information is not intended to provide specific personalized advice including, without limitation,
investment, financial, legal, accounting or tax advice.
Commissions, trailing commissions, management fees and expenses all may be associated
with mutual fund investments. Please read the simplified prospectus before investing. Mutual funds are not guaranteed and are not covered by the Canada Deposit Insurance Corporation or by any other government deposit insurer. There can be no assurances that the fund
will be able to maintain its net asset value per security at a constant amount or that the full
amount of your investment in the fund will be returned to you. Fund values change frequently
and past performance may not be repeated. Mutual funds are provided through FundEx Investments Inc.