The standard is being raised in the highly competitive mutual fund arena by AGF Funds Inc., which has unveiled a new line of portfolio funds that compensates investors with a management fee rebate if fund performance lags the applicable market benchmarks.

“The rebating of a management fee for mutual fund underperformance is unique and innovative,” says Dan Hallett, president of Windsor, Ont.-based Dan Hallett & Associates Inc. “AGF is upping the ante in the industry. I wouldn’t say there’s a fee battle going on, but fees are definitely becoming a more prominent issue in the competitive arena as fund companies try to gain an edge. A few years ago, competing on the basis of fees was not a strategy.”

The AGF “Elements” group, to be launched in November upon receipt of the final prospectus, consists of five diversified fund-of-fund portfolios. The portfolios will comprise up to 10 AGF funds, including a mix of fixed income, core equity and specialized equity.

If any of the portfolios fail to match or outperform its customized benchmark for any three-year average annualized period, AGF will return to investors up to 90 basis points of the management fee, based on the portfolio’s average annual three-year performance. The rolling three-year period will be based on each individual investor’s purchase date, and will be adjusted for new purchases and redemptions.

“Our research shows that advisors and their clients want a product in which the client is sitting on the same side of the table as fund managers,” says Randy Ambrosie, AGF executive vice president, sales and marketing.

The management fee rebate will be equal to the shortfall in basis points between the actual three-year return and each portfolio’s benchmark, and it will be paid in the form of new units issued to investors. The benchmark performance will be based on market indices representing a neutral asset mix for each Elements portfolio.

“If management underperforms, clients don’t understand why their fees aren’t being reduced,” Ambrosie says. “We believe in AGF’s managers and investment process, and have put our money where our mouth is by offering to give up a portion of the management fee if we don’t meet our objectives.”

AGF has hired California-based Wilshire Associates Inc. to construct the portfolios and manage the allocation of funds. Each AGF Elements portfolio will charge an overall management fee that is actually more reasonable than if investors purchased the individual fund components independently and averaged out the fees, Ambrosie says.

The AGF Elements Yield Portfolio will charge an annual management fee, excluding variable expenses, of 1.7%. The balanced, conservative and growth portfolios will charge 2%, and the global portfolio 2.1%, assuming the portfolios keep up with their benchmark. Morningstar Canada says, on an industry-wide basis, Canadian bond funds have an average management expense ratio, including all expenses, of 1.95%, while Canadian equity funds charge 2.91% and global equity funds charge 3%.

The equity portion of the portfolios will be constructed with about 80% of assets in core AGF Canadian, U.S. and global equity funds, and the other 20% divided among niche funds investing in specialized geographic areas and sectors. If a market is becoming overheated and a fund manager’s investment choices underperform the related index, ideally that will be counterbalanced by another manager who is beating the index, Ambrosie says.

“Advisors have specifically told us they want to help their clients invest in niche areas like resources and emerging markets, but it’s difficult to know when and how to do it,” he says. “The structure of the Elements portfolios will be dynamic — it’s a risk-budgeting approach.” IE