Initial reactions of the much-anticipated Cummings Report are in and the responses have been relatively matter of fact, but the truth is advisors have some real concerns with some of its findings.
Flaws, there are a few. Here are five to get you started.
Report fails to adequately address fees vs. performance.
Sure, it indicates that trailer fees do have an effect on performance and fund flows but given the length of the report (101 pages) one would think it would have done a better job addressing the direct correlation between high-MER funds and reduced performance.
“Academia likely assumes that costs correlate directly with performance. We already know from Carl Richards (Director of Education, Buckingham Asset Management) that this is not the case at all,” said Assante Financial Management Ltd. advisor Glenn Szlagowski. “As all advisors instinctively know, there is a big difference between investment performance and investor performance which Richards describes as the performance/behavioural gap.”
“Richards indicates that fees, for example, are a very small part of the performance gap. The big one and the most important one to address is the behavioural gap,” said Szlagowski.
Cummings et al. found that trailer fees increased new fund flows regardless of performance
. Seems obvious, right? However, the report uses a 1.5% trailer fee to make its case. When was the last time someone paid this kind of trailer?
“I (and the vast majority of advisors) would not even know that trailers of 1.5% or higher even exist,” said Szlagowski. “I had no idea that trailers went past 1.25% at the very most. The industry norm really should be 1.00% and that is only for equity mutual funds.”
The authors assume no-load funds always pay a trailer
. Specifically, the average no-load trailer is found to be 0.65% and for fund-of funds the average is 0.85%. But is that always the case? Szlagowski for one isn’t so sure that this is the case. Nonetheless, it’s never a good idea when studies fail to sufficiently explain the assumptions used without some further clarification of the context.
Report fails to consider mutual funds other than equities.
By focusing on equity funds exclusively the report fails to consider funds whose trailer fees are lower such as balanced, fixed income and money market funds. While that makes it easier to point to fund trailers as the culprit it fails to recognize that the overall MERs, especially the portion earned by the fund company, could have just as much to do with any perceived performance-related issues as higher trailers.
Higher MERs don’t necessarily translate to lower performance.
This is a very important point. The report dances around this issue preferring to suggest that increasing trailers results in decreased performance. But it doesn’t link high MERs with performance says Szlagowski.
“Since the late 1990’s I have tried ranking mutual funds by their MER. If we use the hypothesis that MERs determine performance then the fund databases should obviously show that the higher the MER the lower the performance of the fund,” said Szlagowski. “I have found over the years there is no such correlation.”