A while back, many people looking to invest their savings would simply walk into a bank and invest in products based on the recommendations made by the bank’s advisor.
While the do-it-yourself investor movement is slowly gaining traction, many people out there still prefer to invest in mutual funds.
The investment industry has come a long way in terms of giving investors better information, but I believe there is still some room for improvement.
Facts Should Be Given Prior to Investing
Most mutual funds provide a basic fact sheet (‘Fund Facts’) about the fund that details what the holdings are, the risk rating (as judged by the fund provider), annual returns and the costs of the fund.
Related: 4 Golden Rules for Investing
In the past, this information didn’t need to be given to the investor before they made the investment; a fund prospectus was usually mailed to the client shortly after the investment was made.
The Canadian Securities Regulators (CSA) wants that to change – they’ve proposed a new rule that would force mutual fund providers to give investors the information before they buy, not after.
Research by the Ontario Securities Commission showed that many mutual fund investors didn’t understand the facts before investing because of all the legal jargon. What’s even worse – some didn’t even read them at all.
I believe it should be mandatory to give all fund facts to a potential investor prior to investing in a straight forward, easy to read way that would them to make a better decision on whether to invest (or not).
Better Disclosure on Costs
The basic fact sheet on mutual funds usually gives a summary of the fund itself – the major holdings, annual performance, fund managers and historical returns.
They usually give some basic information on cost – the MER (management expense ratio) is disclosed as well as any other associated fees.
However, what some beginner investors could easily assume from glancing at the costs is that it is a one-time fee, not an annual fee.
Mutual funds charge a certain percentage each year as a cost of managing the fund, and as the investment grows – so do the costs.
An investment of $250,000 in a mutual fund with a MER of 1.8% means a cost of $4,500 – per year.
If someone assumed these costs were a one-time charge, they would grossly underestimate the costs related to the fund in the long term.
I believe the wording of the costs should be more clearly stated to explain that the costs listed are annual fees, not one-time charges.
Better Comparison Information
Mutual funds provide historical return information to give investors a better idea on how the fund has performed in the past. While any past performance doesn’t guarantee future returns, it does give investors a general idea on how the fund has performed.
What’s missing from most historical return information is how the fund has performed in relation to other similar funds, or in relation to the market index.
With no other information available, a fund that returned 7% last year might look like a solid potential investment.
But what if the fund had to disclose that last year there were 3 other similar (competing) funds that returned 9%, and that the market index returned 10%?
It wouldn’t look nearly as attractive – and this is exactly the information an investor should know before investing.
I believe it should be mandatory for the funds to compare themselves to a market index and show the data in a clear, easy to read format so investors know exactly what they’re getting into.
Conclusion: I think the mutual fund industry has come a long way but more changes need to be made. Complicated, difficult to read charts should be left out in favor of some basic comparisons to market returns and better disclosure on the true costs.