Critics who compare insurance products unfavourably against mutual funds should think again, says advisor
For the typical investor, it might be too easy to question the value of segregated funds, especially if they’re the cost-conscious type that benefited greatly from the rise of low-cost passive investing. But as one financial advisor points out, the most common criticisms levelled against segregated funds overlook some key facts.
“One common worry is that segregated funds don’t perform as well as their mutual fund counterparts,” says Saskia Vermeulen, a senior advisor at Southlands Financial in BC. “In actuality, the funds may be very similar but higher fees for seg funds might mean the client receives lower net returns.”
According to Vermeulen, fees don’t tell the whole story, and those weighing mutual funds against seg funds must take care to ensure they’re comparing apples to apples.
“Yes, a segregated fund might have slightly higher fees, but you’re also getting a lot more. Seg funds allow you to bypass the estate which saves probate fees as well as time. In some cases they may offer creditor protection,” she says.
“Additionally, segregated funds have built in maturity and death benefit guarantees. These allow clients some peace of mind that in certain situations, their investments won’t decrease beyond a certain point regardless of the markets.”
Another misconception held by investors is that there aren’t many options for segregated funds. Over the years, large bank-affiliated insurance firms and major insurers have been making great efforts to build out their product shelves.
In 2021 and 2022, the Canadian segregated fund space welcomed ETF segregated funds from Manulife and new ESG seg funds from iA Financial Group, among other new innovations. Seg fund providers also typically include a variety of asset-allocation strategies on their shelves.
“Segregated funds have many investment options to suit different types of investors and their risk profiles,” Vermeulen says. Ideally, the client would also be shown different investment options to decide what the best solution is for their needs, she adds.
Investors have also been quick to criticize segregated fund fees. According to reporting by Morningstar, the average fee for a segregated fund with a 75% capital guarantee is 2.92%, and 3.27% for a 100% capital guarantee. A basic balanced mutual fund, in contrast, would come with a 2.3% fee on average.
But that comparison only scratches the surface. “Both [mutual funds and segregated funds] are appropriate in different situations,” Vermeulen says.
“For example, someone in their 30s with no dependents might be looking for the lower fees mutual funds can provide, whereas someone in their 70s might find more value in estate planning which is where seg funds really shine,” she explains. “A risk-averse investor may feel more comfortable knowing segregated funds carry certain guarantees. Throughout a person’s lifetime, they may find that they hold both mutual funds and seg funds or move from one to the other.”
Segregated funds, Vermeulen emphasizes, are similar to a mutual funds with an insurance wrapper. For a client who’s interested in estate planning, creditor protection, and guarantees, a slightly increased fee might be a small price to pay for those features.
“Conversely, if they are more interested in lower fees and don’t see the value in the additional benefits of a segregated fund, then a mutual fund may be more appropriate,” she says.
Recently, segregated funds have been a point of debate in the wealth industry, as regulators point to risks of poor consumer outcomes from the products. According to Vermeulen, advisors hold the key to the proper use of seg funds in financial plans.
“As a client, you want to work with an advisor who can offer various investment options such as segregated funds, mutual funds and ETFs. Your advisor should take the time to understand your unique position and offer options that work for you,” she says. “It is also important to work with someone who regularly reviews your accounts and with you to ensure your financial plan stays on track.”