May 10, 2012 – When are Mutual Funds Still Appropriate?

This article was prepared solely by Larry Short who is a registered representative of HollisWealth®, a division of Industrial Alliance Securities Inc. (iA Securities), a member of the Canadian Investor Protection Fund (CIPF) and the Investment Industry Regulatory Organization of Canada (IIROC).The views and opinions, including any recommendations, expressed in this article are those of Larry Short alone and not those of HollisWealth®

By now you may have guessed that I generally do not recommend traditional mutual funds. I detail the reasons for this statement in my book, but let’s not throw out the baby with the bathwater. For many investors, mutual funds will remain the investment of choice for some time. I prefer ETFs, but the investment industry employs some of the smartest people in the world and I have little doubt that traditional mutual funds will react to market pressures and adapt.

That said, there are some specialized areas where mutual funds currently provide benefits that ETFs presently cannot deliver. Well, yet, anyway.

The three areas where mutual funds have an advantage over ETFs are in Corporate Class Funds, in Segregated Mutual Funds* and in Offshore Funds.

For those of you unfamiliar with Corporate Class funds, these invest in the same way that traditional mutual funds do but re-characterize interest and dividends into capital gains. Such re-characterization can result in significant tax savings. For example, you can invest in a bond fund where usually the interest earned is taxed as high as 42.3% but have that taxed as if it were a capital gain at 21.15% (Province of NL rates) if you use a Corporate Class Bond fund.

In this area, one company has offered a portfolio of ETFs as a Corporate Class mutual fund. I know that sounds confusing but basically this company has employed ETFs instead of individual stocks and bonds inside these mutual funds and then put a corporate class structure around it. The net benefit to the client is a Corporate Class mutual fund at a lower fee than usual.

Segregated Funds have been around in different forms for a long time. These are mutual funds offered by insurance companies that have two interesting benefits. First, they usually have a guarantee on the principal in some form and second, they can be used to creditor proof an investor’s funds under certain, very specific circumstances. This means that in the event of bankruptcy of the investor, their life savings may be protected. At the same time, some downside protection is offered.

The third area is in Offshore Funds.  Offshore Funds invest similar to onshore funds having  the same mandate but are designed for non-resident Canadians and others who wish to employ Canadian investment advisors but wish to avoid Canadian taxation. These are not for Canadian or US residents.

These are powerful tools and there are no ETFs that yet provide these advantages.

Consult your financial advisor before proceeding.

*Insurance products provided through Dundee Insurance Agency Ltd.