Review of Fund-of-Funds Disclosure of Fees and Expenses
This article was originally published in the Investment Funds Practitioner in September 2016.
Last year, staff commenced an issue-oriented continuous disclosure review focused on the disclosure of fees and expenses for fund-of-funds. Our review had the following objectives:
- to determine whether the calculation of the management expense ratio (MER) and the trading expense ratio (TER) for fund-of-funds includes the expenses of underlying funds in compliance with National Instrument 81-106 Investment Fund Continuous Disclosure,
- to review fund manager policies and procedures regarding the prohibition on the duplication of fees for funds that invest in underlying funds, and
- to assess whether the disclosure about fees and expenses for funds that invest in underlying funds is clear and transparent.
Our review included 29 investment funds managed by 16 fund managers, consisting of conventional mutual funds, exchange-traded funds (ETFs) as well as pooled funds.
The main findings from our review are:
1. MER and TER Calculations
We found that a number of top funds that invest in underlying ETFs did not include the expenses of the ETFs in the calculation of MER and/or TER. Many of these top funds disclosed MERs and TERs that were materially understated. This resulted in re-filings of their management reports of fund performance to correct the MER and/or TER.
We remind fund managers to "look-through" the expenses in fund-of-funds when calculating the MER and the TER for top funds, including top funds that invest in third party conventional mutual funds and ETFs. Fund managers should use reasonable estimates when determining the expenses of underlying funds managed by third parties.
2. Duplication of Fees
Our review confirmed that fund managers generally have policies and procedures in place to ensure that there is no duplication of fees in fund-of-funds. We observed that top funds generally invest in a series of securities of affiliated mutual funds that do not have management fees or performance fees. However, we also observed top funds that invest in underlying funds with management fees and/or performance fees.
3. Prospectus Disclosure
For top funds with investment objectives to invest in underlying funds, we have seen prospectus disclosure of a minimal management fee even though the underlying funds have higher management fees. Staff are concerned that the management fee disclosure provided by top funds, particularly for new funds without historical MERs, may be misleading if there is no prospectus disclosure explaining that the underlying funds may have higher management fees. Staff expect the top fund to provide sufficient disclosure to clearly explain the impact of the expected management fees of the underlying funds on the top fund's MER.