Fund flows into segregated funds are up by $800 million so far in 2020, an increase of 10% over the previous year, reports Matt Poetker, vice-president of product design and pricing Iris at Canada Life – a firm with 30% of the market for insured investments which has picked up with the pandemic.
“There’s a renewed demand for such funds,” confirms Robert Denis, an independent financial planner that owns his own firm, Gestion CRD. “People have seen markets dive and are sensitive to the capital guarantees that come with segregated funds.”
Younger Investors Climbing Aboard
This tendency is visible even among younger investors, adds Natalie Bertrand, financial advisor and president of AN Bertrand, who sells mutual funds and SFs, but mostly SFs at this time. “Many young investors have a low appetite for risk for the very simple reason that they have less money.”
Indeed, guarantees are the main distinguishing feature of SFs and come in three formats. The basic one is a 75% guarantee of capital at maturity and at death (75/75). The next level offers a 75% guarantee at maturity and 100% at death (75/100). The third gives 100% at both maturity and death (100/100). “The most popular product is the 75/100 one,” says Poetker.
“Resets” constitute an interesting aspect of these guarantees, but are reserved for 100/100 funds, Poetker indicates. Resets occur usually at each yearly anniversary of the contract and allow the capital guarantee to ratchet up higher, for example at 110% or 120% of capital. Of course, it sets in only if markets have gone up; if they have plunged, the initial 100% guarantee still holds. Some companies charge no specific fees for resets, but others do. Canada Life charges between 0.05% and 0.25% for resets, the fee on a generic balanced fund amounting to 0.11%.
The Fine Print
Investors must be well aware that SF guarantees kick in only at maturity, warns Denis. It has happened a few times that clients wanted to pull their money out of their SF after markets had tanked, thinking that they would pocket at least their initial investment. That’s not how it works. Only at maturity.
Of course, these guarantees are not free and command fees that many observers consider rather steep, the other key feature of SFs. However, these fees have been declining in recent years because “we know how clients have become sensitive to them,” Poetker notes. On a 75/75 Canadian balanced fund, fees are around 2.6% at Canada Life, for a 100/100 similar fund, around 3.1%. That is not outlandish when you compare such fees with those of Canadian balanced mutual funds (MF): true, some charge only 1%, but many others exact fees of 2.3%, even 2.75%.
What’s It Worth To You?
Denis puts fees in perspective: “Fees! Fees! Fees! It’s a new religion. But if you’re able to give a strong return to your client, they become rather marginal.” Still, he’s the first to recognize that 3.1% can eat a strong proportion of return and that’s why he always advises his clients to buy only growth-oriented SFs and to allocate no more than 20% of the growth portion of their portfolio to them. “You need to have growth with segregated funds, otherwise it’s not worth it. If you have a 2% return and a 3% fee, it just doesn’t make sense.”
Guarantees and the fees attached to them have heaped much criticism, opponents questioning the utility of a guarantee 20 or 30 years down the road when it is certain that markets will have moved way above any initial investment, while fees will have eaten away at returns. A valid point, though “resets” on the 100/100 products present a strong counter-argument – depending on the size of the resets, and whether the reset extends the period of time you have to wait before you can access your money (sometimes by up to 15 years).
A Wide Variety
At one time, SFs were quite different from their MF cousins. For example, regulation allowed insurers to offer hedge funds, a category then forbidden to MF suppliers. Now, SF and MF shelves “ are becoming increasingly similar,” says Poetker. For example, Canada Life’s line up of SFs includes countless funds from outside suppliers who, separately, offer the same fund as a straight MF. “We’re simplifying investment strategies in order to keep things simple for advisors,” Poetker points out. It’s a feature Bertrand particularly appreciates: “For funds with a performance that I like, I can offer a version that comes with a guarantee,” she says.
Still, SFs do retain some exclusivity. The main one hinges on guaranteed monthly minimum benefit funds (GMWB). “They’re good products, but expensive, and not for everyone, asserts Denis. It’s certainly good for people who want to stabilize their revenues at retirement. Bank index GICs offer vague equivalents, but they give interest revenue, which is taxed higher, and they don’t have guaranty resets.” Unfortunately, many companies have exited GMWBs, notably Canada Life and Manulife, but about a dozen firms still offer them. “Empire Life offers the best product at this time with a 4.5% revenue if you start cashing out after 65 years of age,” Denis asserts.
SFs still offer original and exclusive funds, but less and less. For example, Canada Life offers a direct investment real estate fund, much like a private equity fund, simply called the Real Estate (GWLRA) fund.
Peak Safe-Haven
SFs have definite succession planning advantages. First of all, because they are insurance products, they cannot be seized or frozen, a feature that business people often find handy. Also, at the time of the holder’s death, funds in a SF go immediately to beneficiaries, like any insurance benefit. In a mutual fund, points out Bertrand, the fund is liquidated only when the succession is settled. And that can take quite a while.
SFs were once stigmatized because of their ubiquitous deferred sales charges (DSC). They are still everywhere, but the extra charge imposed when a client leaves the fund prematurely increasingly rests with the advisor, not with the client. Insurers like Canada Life maintain DSCs to help beginning advisors develop their revenue more quickly, but when a client leaves a fund too early, it’s the advisor that pays the difference, rather than the client – which is only just.
:quality(80)/cloudfront-us-east-1.images.arcpublishing.com/morningstar/Q3KIND5VXRCNHHH6JQHCCYBSSA.png)
