There has been a deluge of feedback in the Canadian Securities Administrators' (CSA) extended consultation on embedded commissions, which includes a possible ban. Although the intense interest was anticipated, regulators may not have been expecting the range of novel positions evident in written submissions from investment industry players.
The investment fund industry is, in general, dead set against a ban on embedded commissions and a move to "direct pay" arrangements. That position is detailed in a consultation paper that was published in January by the CSA. However, that basic opposition is not unanimous, even within the investment industry.
There is support for the ban from some firms that support the concept that the existing structure constitutes a barrier to new entrants. For example, low-fee pioneer Vanguard Investments Canada Inc.'s submission argues that embedded commissions should be outlawed. That submission argues that banning embedded commissions would enhance transparency, improve cost competition and improve investor access to low-cost investment products.
Support for a ban also is strong from a Montreal-based trade group that represents small fund portfolio managers, primarily in Ontario and Quebec, known as the Emerging Managers' Board (EMB). The EMB's submission argues that embedded commissions essentially function as a tariff imposed by dealers in exchange for access to distribution to investors to the disadvantage of small, upstart fund manufacturers.
"The existence of this de facto tax continues to stifle the development of an independent asset-management industry and reduce competition, to the detriment of both Canadian investors and firms - particularly newer ones - looking to raise capital," the EMB submission states. By eliminating these structures, the submission states, existing fund portfolio managers' revenue should rise and new firms will be able to join the market.
Although commercial self-interest appears to be driving some support for a ban, a submission from industry research firm Morningstar Canada states that embedded commissions should be eliminated for the sake of investors: "By inducing competition and lowering costs, improving transparency and accountability, and driving technological innovation, Morningstar believes investors will be well-served by discontinuing embedded commissions."
Support for a ban is harder to find on the dealer side, although it does exist. The submission from Vancouver-based wealth-management firm Credential Financial Inc. favours the elimination of embedded compensation structures. However, the firm has concerns about whether a ban will lead to a so-called "advice gap" - that is, leaving lower-value clients unable or unwilling to access advice if they must pay for it directly.
The prospect of an advice gap is a central reason cited by many opponents to an outright ban. The CSA's original paper stated the regulator doesn't support the contention that a ban would necessarily lead to a significant advice gap. To the extent one does emerge, that paper suggested the industry will move in to fill it through new models, such as online advice or through existing bank-based advisors.
Still, much of the feedback from the industry continues to warn that a ban would create a meaningful advice gap, thus harming lower-value clients in particular.
This argument has found little traction among advocates for reform, such as in the submission from the independent Investor Advisory Panel (IAP): "[Regarding] an advice gap, let's be very clear: no industry should address the concerns of people who do not want to pay for a service by charging them anyway and hiding the costs. This is not a healthy business model and it should not be acceptable in the Canadian investment industry. It is not transparent nor is it fair."
The IAP submission argues that the CSA should ban all forms of conflicted compensation, not just embedded commissions: "The only advice gap that needs to be urgently closed is the one between independent and compromised advice - the CSA is in a position to do that."
Another "advice gap" skeptic is the Canadian Advocacy Council for Canadian CFA Institute Societies (CAC). It supports discontinuing embedded commissions, along with complementary reforms to enhance client/advisor regulation. If regulators aren't prepared to go ahead with a ban, the CAC proposes alternatives.
For example, the CAC's submission suggests limiting the variety of fund series and fee structures and doing away with front-end and back-end load options. That submission also suggests explicitly dividing reps into "salespeople" and "advisors," based on the type of service they offer.
Such a distinction would give investors a truer picture of conflicts and the services each type of rep offers, the CAC's submission states. Alternatively, it suggests improving fee transparency further "by requiring product manufacturers to comprehensively disclose all costs, for example, the amounts paid to dealers."
This would assist in helping investors to seek "answers as to whether a riskier recommended fund has higher fees associated with it," the CAC's submission states.
Other alternatives proposed by the industry include capping trailer fees, eliminating deferred sales charges (DSCs) and setting new service standards for dealers and reps who collect trailers. Although there are plenty of suggestions for alternatives to a ban, there's little consensus on the form they should take.
For example, the Investment Industry Association of Canada supports the elimination of DSCs, but the submission from the Independent Financial Brokers of Canada (IFB) states DSCs should remain (albeit with shorter redemption schedules). The IFB's submission also suggests that embedded fees be standardized to eliminate possible incentive conflicts among funds, along with other measures.
A number of these ideas have been considered, then dismissed by the CSA.
The CSA's consultation paper concludes that an outright ban is likely to be the most effective route to addressing the regulator's concerns with industry fee structures. With the latest consultation period now complete, the CSA hopes to reach a policy decision within a year.
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