Beyond Mutual Funds

As Your Wealth Grows, so do your investing options.

Kelly Rodgers, MoneySense May 2000

A reader recently wrote me to ask when she should consider moving out of mutual funds. She had heard about alternatives such as wrap accounts, investment counsellors and pooled funds and was wondering if any of these made sense for her.

Her situation is typical for a lot of upper-middle-income people as they reach their late 40s or early 50s. By then, many couples have accumulated more than a quarter-million dollars in RRSP assets and they're beginning to wonder if there's a better way to manage their money.

Let's look at what is available at three different levels of portfolio size:

UNDER $250,000 If you have less than a quarter-million dollars of investments, your best option is still mutual funds or similar products, such as segregated funds from insurance companies or pooled funds from investment counsellors. All of these funds work in much the same way - they take your money, lump it with money from other investors and use it to buy stocks, bonds or other securities.

The differences between these products are relatively minor. Segregated funds usually come with some type of guarantee that protects you from losing a large amount of your capital. You usually pay a higher fee as a result. Pooled funds, on the other hand, differ from mutual funds in that they're sold without a prospectus, usually require a six-figure minimum investment and have lower fees.

The important thing is to find the management you want at the lowest possible price. I'm a big fan of low-fee, no-load mutual funds, which you buy directly from the fund company. These funds typically charge you only 1% to 1.5% in management fees. In comparison, funds that charge you either a front- or back-end load will wind up dinging you for 2% to 2.5% in total fees.

Look at it this way: on $200,000 in assets, load mutual funds will charge you $4,000 to $5,000 a year in fees. No-load companies will charge you only $2,000 to $3,000. If you're investing in a straightforward mix of stock and bond funds, and you're not rejuggling your portfolio frequently, you can put a couple of thousand dollars into your own pocket every year by going the no-load route.

At about $150,000. You can start considering pooled funds, although some firms may require a larger or smaller minimum investment. You buy these funds directly from the investment manager, not through a financial planner or other intermediary. The advantage of pooled funds is that they typically charge lower fees than most load mutual funds. Fees are generally 1%, or about half the rate of load mutual funds, and the fee schedule is tapered so the fee rate declines as the assets grow.

ABOVE $250,000 Once you accumulate more than $200,000 in investments, you're going to start hearing a lot about wrap accounts. These are offered by brokerages and some financial planners. As a wrap investor, you outline your investment objectives to your financial adviser. Depending upon the scope of the wrap program, your financial adviser then puts your assets in a mutual fund, pooled fund, or individual stock and bond portfolio, and places them with one or more investment counsellors to manage. Instead of being charged separate fees for each transaction, you pay one single fee every year.

I'm not a huge fan of wrap accounts because of the expense. You typically pay 2.75% to 4% a year. That's a lot. Remember that stocks (the best-performing class of assets) have historically produced an average return of only about 7% after inflation. In many of the most expensive wrap accounts, nearly half of your probable return is going to your financial adviser.

ABOVE $500,000 As your portfolio nears the half-million dollar mark, you may be able to negotiate lower fees from your mutual fund company. How much you save depends on how hard you negotiate with your adviser. Many fund companies leave the amount of the discounting up to the adviser.

At this point, you can also start considering the idea of going to an investment counselling firm that specializes in discretionary money management for well-heeled clients. You will explain your objectives and the firm will put your money into either pooled funds or segregated portfolios that meet your needs. The all-in cost for this, including all management fees, will typically be 1% to 1.5%.

That isn't a huge saving over doing it yourself with no-load mutual funds, but an investment counsellor can make a lot of sense if you don't want to continuously monitor your own asset mix. The counsellor will do it for you, and adjust your asset mix to your individual objectives and risk tolerance.