It’s no secret that the structure of the banking system provides limited choice for retail investors looking to invest their hard-earning dollars in an investment fund. The oligopolistic nature of our largest financial institutions has resulted in the outright domination of bank-owned mutual funds in the Canadian market. Consequently, our financial institutions have also done well in defining how advice is paid for by retail investors.
Today, there are largely two options for an investor to buy a mutual fund from an adviser: (1) “commission-based,” where the investor pays for advice and distribution through a single management expense ratio (MER), from which the adviser receives a part of this fee directly from the fund manufacturer, and (2) fee-based advice where an investor pays a lower MER, and separately pays a percentage to their adviser directly. The former is commonly referred to as the “A” share class, while the latter is referred to as the “F” or fee-based share class.
Of the two, investor advocates have long criticized the commission-based model, pointing to the potential conflict of interest for an adviser recommending a fund that also pays them a commission.
On the flip side, advocates have often praised the fee-based model, as it aligns the motivations of the investor with that of the adviser with the underlying assumption that an adviser is indifferent about what funds to recommend because they are getting paid directly for advice. This said, fee-based share classes of mutual funds are often only available to those with larger account sizes, which can preclude smaller investors from investing and receiving advice.
All this said, Morningstar’s data has shown a distinct shift away from commission-based advice over the last decade.
At the end of 2024, assets invested in commission-based share classes of mutual funds were still in the majority, but only by a slight margin (52 per cent commission-based, 48 per cent fee-based). This is a stark contrast to a decade ago, when commission-based share classes were the norm.
To avoid double-counting of assets, the first chart excludes “funds of funds,” which are simply mutual funds that invest in other mutual funds or ETFs. However, when we only focus on funds of funds (which predominantly consist of balanced funds), the data tells a much weaker story.
The shift away from the bundled commission structure can be at least partly attributed to the increased transparency of fees in Canada over the last decade through regulation. Industry initiatives like the Client Relationship Model (CRM2) and subsequently the Client Focused Reforms have shone a light on the advice model in Canada.
The shift toward fee-based advice might very well be amplified further in 2027 when client statements in Canada must adhere to a new format (dubbed “Total Cost Reporting”) which will further spell out how much is paid to advice-givers in commission-based arrangements.
This article does not constitute financial advice. Investors are encouraged to conduct their own independent research before buying or selling any security or investment fund.
Ian Tam, CFA, is director of investment research for Morningstar Canada.