Anything that hastens the demise of the deferred sales charge mutual fund is a good thing.
By that standard, the new "lower load 4" sales option introduced yesterday by AIM Funds Management is a small step in the right direction.
Lower load 4 is meant to give investment advisers an alternative to the DSC, where clients pay nothing to buy funds but face redemption fees if they sell in the years after purchase. As with DSC funds, investors will be able to buy lower load 4 funds at no cost. But while AIM's DSC funds levy a redemption fee if clients sell within six years of buying, the low-load 4 option holds them hostage only for four years.
Six years . . . four years . . . for investors, this is not a significant difference. So what's the point of this little exercise?
Business-wise, AIM may be trying to do something to help it shake off a sales slump caused by a period of comparatively weak performance by its funds. When the lower load 4 sales option makes its debut on July 4, AIM will have something new to offer advisers so that they keep client money in-house instead of moving it elsewhere.
But it also appears as if AIM is trying to position itself to benefit from a trend among advisers to do business in a more transparent, investor-friendly manner, which is to say discarding the DSC.
When an adviser sells an equity fund with a deferred sales charge, he and his firm receive a sales commission from the fund company of as much as 5 per cent. As paydays go in the financial advice business, this is close to as good as it gets. On the matter of transparency, however, DSC funds are close to as bad as it gets.
The analysis firm Investor Economics reports that DSC funds accounted for 56.5 per cent of funds sold with one kind of fee or another at the end of last year. It would be interesting to know what percentage of the investors who bought these funds were aware that their advisers and their firms were sharing a sales commission of up to 5 per cent.
Oh, sure, some advisers have explained these commissions to clients. But it's hard to believe more than a tiny minority of customers know a thing about DSC funds, other than the fact that they don't have to pay anything out of pocket to buy them.
The main alternative to DSC funds for investors working with an adviser is the front load, where there's a completely transparent commission paid by the client at the time of purchase. These commissions are negotiable, but in practice they tend to be no higher than 1 or 2 per cent and, increasingly, they're waived entirely (this is called zero load).
Are front- or zero-load advisers altruists? Nope. They get paid on a continuing basis through trailing commissions, which add up to as much as 1 per cent of an investor's holdings a year. Trailer fees are paid by fund companies out of the management expenses charged against fund returns.
Advisers selling DSC funds get trailers, too, but only 0.5 per cent at most. The lower load 4 model also pays 0.5 per cent, but it converts to as much as 1 per cent in the fifth year.
Compensation-wise, DSC funds pay advisers more in the early years of a relationship with clients, while front- or zero-load pay more over time because of the larger trailing commissions. Clearly, then, there's no real reason to sell DSC funds beyond the fast buck they offer.
The DSC share of fund sales has declined to just over half from almost three-quarters since the end of 2000, but there is obviously a rump of DSC junkies who are resisting the shift.
This is where AIM's lower load 4 option comes in. It's meant as transition for advisers who have geared their businesses toward big upfront commissions but who will eventually move to a front-load business model.
AIM and other companies have already tried a DSC alternative called low load that has redemption fees for only two years. It never caught on, probably because it offers an upfront commission of just 1 per cent.
Will lower load 4 be more successful? Given the 4-per-cent upfront commission and the reduced four-year schedule of redemption fees, it's arguably a decent compromise for advisers. They could sell lower load 4 for a few years, then switch over to zero- or front-load once their trailing commissions jumped to 1 per cent from 0.5 per cent.
If some advisers buy this thinking and chuck the DSC, then good for AIM for facilitating the change. Meanwhile, investors should be doing their part to eliminate the DSC by holding out where possible for zero-load advisers. Investor demand will speak a lot louder than lower load 4 in changing the way advisers do business.
© 2007 The Globe and Mail. All rights reserved.
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