An Immersion in ETFs

After lagging behind the US for years, Canada is now embracing ETFs – and Pat Dunwoody, president of the Canadian ETF Association, says there are a number of factors contributing to that love

An Immersion in ETFs
When the Canadian ETF Association was formed in 2012, there were only five ETF providers nationwide. That number is now 18 and counting, and there’s also a raft of new products available in the marketplace these days. It’s a busy time for CETFA executive director Pat Dunwoody, no doubt – she is the organization’s sole staff member, which, given the increase in ETFs over the past three years, is quite the responsibility indeed.

A part of CETFA since its genesis, Dunwoody looks back on those early days. “It was set up in 2012 to give ETF providers in Canada a unique voice,” she says. “Up until that point, the Investment Funds Institute of Canada incorporated ETFs, but really spoke on behalf of mutual funds. ETF providers felt they needed their own voice.”

In establishing a new entity to serve the interests of ETF providers in Canada, it was crucial to get some of the industry’s key players on board. Right from the start, this wasn’t an issue for the CETFA.

“BMO, Horizons and Claymore set up the organization, and we gradually grew by speaking to the other ETF providers on the Street,” Dunwoody explains. “We now have affiliates – law firms, accountants, back office – and a small group of portfolio managers who use ETFs almost exclusively.”

The group now has eight ETF providers on board – Mackenzie Investments is the most recent addition after joining in September. CETFA’s membership also includes iShares, BMO, First Asset, Horizons, TD and Vanguard, which accounts for 95% of ETF assets in Canada. Such figures give the organization legitimacy –especially when it comes to dealing with regulators.

“We speak to regulators on behalf of the industry,” Dunwoody says. “They understand we are not speaking for a specific firm, so it’s more balanced. We spend quite a bit of time providing them with presentations and information on how the industry works.”

The fee factor
This role will only increase in importance in the years ahead as the rules governing the industry continue to evolve in complexity and cost. CRM2 is just the latest and most high-profile development in this area, but many industry players believe it could be just the thin end of the wedge.

“When you look at all the regulations that have come down, fees are finally coming to the forefront,” Dunwoody says. “It’s not necessarily that specific fees are too high, but the regulators and the media and a lot of the industry do not believe clients truly appreciate what they are paying.”

The fact that the rise of ETFs and the industry shift toward a fee-based model are occurring concurrently is not a coincidence. Canada, the birthplace of the exchange-traded fund, was slow to warm to ETFs, and the traditional commission-based system has been central to that hesitancy, in Dunwoody’s view. “For the first 15 to 20 years of ETFs in our industry, products were sold, not bought,” she says. “Clients were very dependent on their advisors for recommendations and advice. In that world, 95% of accounts on the mutual fund side were commission-based. So if they sold an ETF to a client, they weren’t making any money.”

Today, clients are much more savvy regarding their investment needs. The number of products available to them has also grown exponentially, and ETFs are leading the charge. These factors are driving change in the industry, especially when it comes to fees.

“Now that fee-based accounts are becoming more prevalent, the product shelf almost doubles,” Dunwoody says. “You have F-class mutual funds, ETFs and other low-cost mutual funds that didn’t have trailer fees either. There are more and more advisors moving their clients into fee-based accounts.” The emergence of ETFs over the past decade in Canada means the industry receives a lot more attention from money managers, investors and the media, as well as regulators. Dunwoody outlines what that means for her role.

“As the regulators put in new rules, we are making sure they know the differences between ETFs and mutual funds, as well as other equities,” she says. “We are a hybrid, so quite often the rules do not fit our product model.”

Room to grow
While ETFs have enjoyed a steady rise recently, there still is plenty of room for growth. Mutual fund assets in Canada are still about 10 times the size of ETFs. Then there are our neighbours to the south to consider, where ETFs account for US$2 trillion in assets. According to Dunwoody, the Canadian ETF industry has clear expansion plans already in place.

“Almost since the beginning of the association, we have been working on getting MFDA advisors access to ETFs,” she says. “We have been working with the regulators, IIROC and the MFDA to build a business model that would allow those firms to offer ETFs. We are almost there.”

Those meetings will bear fruit before this year is over, and once the first MFDA firm dips its toe into the ETF water and gains success, plenty more will undoubtedly follow.

“We have done a lot of work with Fundserv, and they will have a pilot this fall,” Dunwoody says. “We are hoping 2017 will see a lot of MFDA firms being able to sell our products, and through that, there will be even more growth than what wehave seen in the past few years.”