Don’t buy DSC mutual funds

Recently I wrote about one investor who was tired of paying higher management fees on her DSC mutual funds.  When she wanted to pull her money out, she was faced with a back end load also known as a deferred sales charge (DSC).  She wanted to know if it made sense to pay the DSC?

Do it yourself investing?

In the example from my last article, Ellen wanted to move from advisor recommended mutual funds to a do-it-yourself version through the TD e-series.

Related article:  Financial advisor or do it yourself

The challenge for many investors is they won’t, can’t or shouldn’t do it themselves.  I’ve told many investors that we live in a time where investors have the tools and information to invest their own money if they choose but they have to have the time, passion, knowledge and desire to do it themselves.  Not everyone has these qualities, which means that many investors will have to get help from financial advisors.

Should financial advisors get paid?

DevilThe economic reality is that good financial advisors deserve to get paid.  It’s similar to the fact that I could build my own deck.  There’s information and tools out there for me to do this but I have to want to do it and I have to feel confident that I can do it.  If I hire someone to do it for me, I have to expect that I will pay more than trying to do it myself.

Related article:  How to financial advisors get paid?

Moving to another advisor?

I recently talked to another investor who was not happy with one of his investments and advisors.  Let’s meet Carl.  Carl was not like Ellen in that he was not interested in investing himself.  The idea of investing his own money is interesting but he does not have the confidence that he can invest properly.  As a result, Carl wants to consolidate his money by moving money from one advisor to another?  DSC mutual funds can still create significant problems.

Carl has $18,994 in the Primerica Aggressive Growth Fund with his Primerica agent.  He is not happy with this advisor and wants to move this money to his other financial advisor that has money invested in the Dynamic Power Cdn Growth.

The problem is to get out of the Primerica mutual fund, he would have to pay $797.54 which is the equivalent of a 4.21% penalty.

After reading my last article on Ellen, Carl was wondering if it made sense to pay $797.54 to move from the Primerica Fund which has a MER of 2.72% while the Dynamic Fund MER was lower at 2.42%.

Related article:  Management Expense Ratios do matter

Should he pay the DSC?

On an $18,994 investment, the annual fee savings would only be $56.83 (2.72% minus 2.42% times $18,994). The math suggests that it would take 14 years to make back the $797.54 back end load.

In my humble opinion, that’s not enough of a fee savings to justify the one time cost.  It’s just too big of a penalty.  In other words, it’s too long to breakeven.

Not an apples-to-apples comparison

The Primerica fund is a global equity, while the Dynamic fund is a Canadian Equity.  Although I do think the Primerica MER is too high, global funds will typically have a higher MER than Canadian Equity funds.

Carl can switch to a different fund at Primerica but he is not happy with the advisor.  One of the challenges that Carl faces is that the Primerica Advisor is a proprietary advisor that only sells Primerica Funds.  He can’t even move the money to his other advisor for this reason.

Any way you look at it, DSC mutual funds are not great!  The investment industry has evolved and investors should avoid DSC mutual funds whenever possible.  There are many advisors willing to invest on a no-load basis.  The bottom line is don’t buy DSC mutual funds if you don’t have to!

Written by Jim Yih

Jim Yih is a Fee Only Advisor, Best Selling Author, and Financial Speaker on wealth, retirement and personal finance. Currently, Jim specializes in putting Financial Education programs into the workplace.For more information you can follow him on Twitter @JimYih or visit his other websites Group Benefits Online and Advisor Think Box.

7 Responses to Don’t buy DSC mutual funds

  1. Jim B. says:

    My involvement with mutual funds, is typical of many investors,
    not knowing how to invest, I went with my financial institution.
    What I got was not an adviser, but a Funds Salesman, although he
    claimed to be a financial adviser. I initially though that he was working in my best interest, however this was not the case.
    My mistake was not asking to see his credentials. Since dealing with this individual, I have learned that he was fired, no reason given and is now working in another field. The old saying: buyer beware, is now my motto.

  2. more_truth says:

    “Should financial advisors get paid?
    The economic reality is that good financial advisors deserve to get paid. It’s similar to the fact that I could build my own deck. There’s information and tools out there for me to do this but I have to want to do it and I have to feel confident that I can do it. If I hire someone to do it for me, I have to expect that I will pay more than trying to do it myself.”

    A bit of a incomplete comparison.

    If a professional builds your deck and it fails, you could most likely sue said builder and he/she would most likely be held to some kind of liability. As well, you could most likely collect some kind of insurance on both property and personal damage.

    With a financial advisor, however, they have zero liability. If the markets fail and you lose all your money…well, that’s all there is to that story. Too bad, so sad.

    • Jim Yih says:

      Thanks for the comment.

      The difference is that advisor has no control over the markets. That is a different problem in itself but it’s still an important difference.

      Jim

  3. more_truth says:

    Jim,

    Even in collapses such as 2008-09, there were those who made money.

    A GOOD professional advisor would have i) had the foresight to know what was coming, and ii) applied the client’s money in the appropriate manner.

    Just as a good professional carpenter would i) choose quality lumber, ii) mix the concrete properly, and iii) use proper binding (ie. screws, nails, etc.) to build your deck.

    There are ALWAYS ways to make money in ANY kind of market.
    The market is NOT the problem.

    A GOOD advisor will pursue these on behalf of his client; an average advisor will do what the average does and collect his fees, regardless of performance.

    • Jim Yih says:

      Sorry but we have to agree to disagree. NO ONE, not even good advisors or money managers can have the foresight to see and predict the future.

      Jim

  4. more_truth says:

    Jim,

    So what you are saying is that NOT ONE financial advisor in the entire industry has the ability to take a look around, view the economic landscape (global and local), and all other influential trappings, and make intelligent decisions on where to allocate capital?

    How did Soros make almost a billion dollars from the British Pound?
    How did Kyle Bass and Peter Schiff make fortunes from the sub-prime crisis?
    How did Buffett make billions from currency trades?
    How did Taleb make millions from both the 1987 crash and the 2008 crash?
    And those are just the famous ones.

    It was all foresight and prediction of the future.
    You have to place your bet BEFORE the event occurs.

    I do agree, a run of the mill mutual fund sales person will never be able to emulate a good manager, and a run of the mill mutual fund will never be able to emulate a good portfolio.

  5. DSC funds were once lauded by the press in the 1980’s as they allowed investors to elude the lofty 6% or higher front-end commissions at the time.

    DSC funds are rarely lauded now as they have somehow been pegged by the press as inherently evil. I don’t agree with that view although I think they have outlived their usefulness now that commissions are pretty much at 0%.

    Since 90%+ of FE purchases are 0%, really what has happened is that DSC funds reason d’être is no longer relevant as advisers are steering clients to 0% commission models for the 1% AUM fee.

    Oddly, despite DSC funds falling popularity (for the reasons given), it is interesting to note that DSC funds may dissuade a client to sell when they shouldn’t. I am developing a theory that based on behavioral economics, given a scenario like the Great Panic of 2008 – 2009, DSC funds may have done better than their FE counterparts which may have sold off in a panic during the crisis. I am not aware of any studies that might support that view.

    However, famed behavioral economist, Dan Ariely does give us a hint about investor behavior that suggests that instant access to our money is not always a good thing:

    “Whatever you do, I think it’s clear that the freedom to do whatever we want and change our minds at any point is the shortest path to bad decisions. While limits on our freedom go against our ideology, they are sometimes the best way to guarantee that we will stay on the long-term path we intend.” — Dan Ariely, author of New York Times best seller, “Predictably Irrational”.

    I am no different than the average adviser as most advisers are already migrating or have already migrated to a 0% commission world. You are correct of course. Given a choice of a DSC fund or a 0% FE fund, which one would you rather have? Both funds have the same identical performance and internal costs, yet the DSC fund has the possibility of early redemption charges if you have to bail out before the fund’s maturity schedule expires in 7 years.

    Given a choice, you would of course, prefer the front-end fund that can be sold at any time without penalty. Chances are you won’t even have to negotiate a 0% commission anymore. The adviser will in all likelihood will have already waived it.

    However, if your adviser still charges a load, the choice is not so clear especially if you can withdraw 10% a year free from the DSC fund.

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