November 2016

Paying for Performance

• Cheaper ETFs verse Expensive Investment Funds
• Our take on the Issue
• Example of real decisions made

When we construct a client investment portfolio deciding which product to use for the wanted asset exposure is extremely important. The right investment product mix can allow us give the client the highest expected return for the amount of risk taken. We scrutinize fees thoroughly since it is one of the components of net return. It’s also a touchy subject that can cause investors to act irrational when it comes to investment selection. Cheaper does not always equal better.

ETF versus Investment Funds

Currently, in the investment world there is a war raging between the more expensive active fund management and cheaper passive investments such ETFs. It’s no secret that the passive investment side is winning quite handily.

This is mainly being driven by:

• The sticker shock of fees. Active fund management fees can get up to 2.5%, and some hedge funds also charge a performance fee on top of this. An ETF generally costs anywhere from 0.05% to 0.60%.
• Poor performing funds, there are several stats that show over a 5 year period 80+% of large cap fund managers cannot beat the S&P500.
• The bigger and more efficient the market the harder it is to outperform. A manager can only outperform if they have a repeatable information advantage. Managers generally cannot gain this advantage in large efficient markets.


Our viewpoint is to focus on net return after fees. At the end of the day this determines the value of your portfolio. When looking to fulfill an objective in your portfolio we will look at several individual equities, investment funds, hedge funds and ETFs. We give an unbiased look at the numbers and pick what we believe gives the investor the best return for risk taken no matter what the product type is or the associated fees.

We found after reviewing 100’s of funds that the top managers who are investing in niche markets or in small companies can in fact generate excess return by putting in real work to gain an information advantage. They can add value to investors over index ETFs after fees are taken into account. Contrary, we found that fund managers who invest in large cap well-known names in efficient markets like the US generally do not add much value after fees in the long term.

A fund manager in Calgary buying Apple stock doesn’t have any advantage. Apple is too researched to gain an information advantage and the manager isn’t on the ground level to find compelling data. A Canadian energy fund manager in Calgary who personally knows all the management teams, has granular knowledge of different land plays and is on the ground level with all the large / smaller players in Calgary has a distinct advantage. This is especially true when he’s competing against a fund manager in New York who runs a basic analysis and buys Suncor.

Real decisions we made

Below is an example of returns for specialized niche energy funds versus a large cap growth fund described above after fund fees over the last 5 years . These are 2 actual decisions we have made in the past 6 months.


We can see Canoe which has a total fee of 2.61% returned 36.8% versus the TSX capped energy index which returned -24.55% but had a fee of 0.62%. Obviously it is clearly preferential to hold Canoe despite the large fee but we had to have a very serious discussion on whether to not to use Canoe verse XEG because of the sticker shock of higher fees and possible negative client reactions. We chose the niche manager that proves to add value after fees.


Dynamic is one of the larger and well known US growth funds in Canada with close to $1 Billion held by mainly investment advisors for clients. The fund correlates with the Nasdaq 100 and contains many of the same names. The fee of the Power American is 1.31% and has earned a respectable return of 56.51% over the last 5 years. However, compared to the similar QQQ ETF that charges 0.20% and returned 189.57% it doesn’t hold up. Here many people are paying a high fee to underperform. We use the QQQ ETF for our large cap US exposure and save the fees.

Fund fees in the coming year are going to be front and center due to new reporting regulations. A major fear in the industry is the sticker shock of fund fees and the negative reaction clients will have now that they are not going to be buried in the return performance like in the past.

It is going to be very tempting for portfolio managers to exit funds in favor of ETF in all cases so they can claim they are the cheaper than the next guy as a selling point. We will always do what we believe is best for the client even if it reflects negatively on the highly visible fee line item. When it makes sense we will pay for superior performance.

If you have questions regarding the fees we are happy to break it down for you and explain the decision process of why we may have invested in a more expensive investment product.

This newsletter was prepared solely by Bruce Morrison who is a registered representative of HollisWealth™ (a division of Scotia Capital Inc., a member of the Canadian Investor Protection Fund and the Investment Industry Regulatory Organization of Canada). The view and opinions, including any recommendations, expressed in newsletter are those of Bruce Morrison only and not those of HollisWealth. TM Trademark of The Bank of Nova Scotia, used under license. Morrison & Partners Wealth Strategies is a personal trade name of Bruce Morrison. >