Seven years after entering the Canadian investment market with low-cost ETFs, Toronto-based Vanguard Investments Canada Inc. – a subsidiary of Pennsylvania-based investment giant Vanguard Group Inc. – has set its sights on Canada’s large mutual fund industry.
Vanguard, the third-largest ETF provider in Canada and the largest mutual funds provider in the U.S. in terms of assets under management (AUM), has filed a preliminary prospectus with Canadian securities regulators to offer four actively managed mutual funds. Those funds will have management fees considerably lower than the industry average, so Vanguard’s foray into Canada’s mutual fund industry could put further pressure on already declining mutual fund fees and create a formidable new competitor for existing industry players.
“Vanguard is a phenomenal company, and it has been able to price its products incredibly efficiently,” says Raj Lala, president and CEO of Toronto-based Evolve Funds Group Inc. “[Vanguard] probably will capture some market share, just based on the pricing.”
Vanguard’s four pending mutual funds include Vanguard Global Balanced Fund, Vanguard Global Dividend Fund, Vanguard U.S. Value Windsor Fund and Vanguard International Growth Fund. The funds will be managed by Vanguard and several subadvisors. The retail mutual funds will be available only in Series F (i.e., for fee-based financial advisors) and Vanguard anticipates each fund will have a maximum management fee of 0.5%.
That’s well below the average level of fees on F-class equity mutual funds in Canada, which was 0.91% in 2017, according to data from Strategic Insight Inc.
“That [low fee] will put a bit of pressure on everybody else,” says Nelson Cheng, CEO of Windsor, Ont.-based Sterling Mutuals Inc. He notes that mutual fund fees in Canada have been declining in the past few years, and Vanguard’s entrance into this space could add further momentum to that trend.
Vanguard’s low-fee model certainly has proven successful in the U.S., where Vanguard Group had US$3.64 trillion in mutual fund AUM as of Jan. 31, according to the Washington, D.C.-based Investment Co. Institute. That’s more than double the second- largest mutual fund company, Los Angeles-based Capital Research and Management Co., which had US$1.76 trillion in AUM.
Given that Vanguard initially plans to launch only four mutual funds in Canada, however, the company doesn’t appear to present a major immediate threat to the marketplace, says Rudy Luukko, investment funds and personal finance editor with Morningstar Canada in Toronto.
“I don’t think any of the existing industry players should be shaking in their boots quite yet,” Luukko says. “[Vanguard’s] initial foray into traditional mutual funds [here] is very modest.”
Luukko suspects that Vanguard is launching the mutual funds to assess the appetite for its mutual funds within the Canadian marketplace before deciding whether to move forward with a more extensive product shelf.
Vanguard’s ETFs in Canada are successful, with AUM of $14.8 billion as of Feb. 28, according to the Canadian ETF Association. However, mutual funds could present another major avenue of growth for the fund company, as mutual funds continue to be the investment vehicle of choice for many Canadian investors.
“Mutual funds still are the most popular form of investment funds, on the basis of holdings,” says Luukko.
Given the popularity of both investment vehicles, many investment companies offer both mutual funds and ETFs rather than limiting themselves to one or the other. In the past two years, well-established mutual fund providers such as AGF Management Ltd. and Mackenzie Financial Corp., both based in Toronto, have added ETFs to their offerings.
In addition, Canada’s largest ETF provider, Toronto-based BlackRock Asset Management Canada Ltd., rolled out mutual funds in 2013, in the form of portfolio funds that are comprised of ETFs. As well, Toronto-based Purpose Investments Inc. offers all of its ETFs in mutual fund form.
“Increasingly, major asset managers are offering both mutual funds and ETFs,” Luukko says.
Expanding the product lineup to include mutual funds also enables Vanguard to tap into a significant new distribution channel of advisors with Mutual Fund Dealers Association of Canada (MFDA)-licensed dealers. While efforts have been underway in the past few years to enable MFDA firms and their advisors to sell ETFs, the vast majority of MFDA-licensed advisors still are unable to sell ETFs.
“There’s a big segment of advisors out there on the MFDA side that probably would look at these mutual funds, and the fee structure, and gravitate toward them,” says Lala.
He notes that many mutual fund investors are asking their advisors about ETFs. Low-cost mutual funds such as the ones Vanguard is introducing may resonate with those clients.
Vanguard’s decision to distribute its Canadian mutual funds exclusively through advisors is a departure from the company’s strategy in the U.S., where investors can buy Vanguard mutual funds through the direct investing channel. The decision to go the advisor sales route north of the border probably reflects the prominent role that advisors play in mutual fund distribution in Canada, Luukko says.
“Canada still is largely an advisor-driven market, more so than the U.S.,” he says, adding that Vanguard already has established relationships with advisors through its distribution activities in the ETF space. “Leveraging those relationships in its small mutual fund family makes sense.”
Vanguard’s focus on the fee-based advisory channel is consistent with the approach of its U.S. parent company. Vanguard Group doesn’t pay trailer fees to advisors; instead, the firm supports fee-based advisor compensation, which, the company has stated, enables investors to know how much they’re paying.
Although many advisors in Canada continue to rely on trailing commissions, a growing proportion of advisors are making the transition to fee-based practices, according to Cheng: “We’ve seen a lot of growth on our fee-based platform. In the past two or three years, it’s picked up quite a bit.”
With regulators considering a ban on embedded commissions, combined with a growing push toward fee transparency, the fee-based advice channel is likely to continue to grow along with demand for low-fee investment options.