Labour fund assets recover, but sales still weak

(October 25, 2004) Labour fund assets have almost returned to their 2000 levels — the peak of the Silicon Valley IPO boom — but sales are still down from the rates attained in the late 1990s, according to data from Toronto consultancy Investor Economics.

“The number of Labour-Sponsored Investment Funds is at a record high,” Investor Economics notes in its latest Insight report. “But,” it warns, “this does not necessarily mean this product is thriving.”

Indeed, over the past year and a half, the industry has been assailed by an academic study that used statistical techniques to show that labour fund investors, because of the incentive fees paid to managers, would be better off investing in small-cap stocks. That study, which won the Canadian Investment Review’s award for best academic paper, has been challenged by the industry for misstating how incentive fees are charged.

From another angle, the C.D. Howe Institute has called for the elimination of tax credits for investing in labour funds. The federal government offers a 15% tax credit on labour funds for an investment of up to $5,000. Some provinces match the credit, although Saskatchewan and Nova Scotia cap it at $3,500.

In addition, some provinces restrict the companies they will recognize as eligible, while some funds — Investor Economics mentions Front Street Energy Growth Fund — skip provincial registration because of more restrictive investment mandates.

The high point for LSIF sales is RSP season, and because investors must hold for eight years or repay their tax credits, LSIFs would seem to have a retention edge.

Still, while assets now stand at $3.66 billion, 98% of the 2000 asset peak, the total LSIF share of long-term funds has fallen from 0.95% to 0.86%, Investor Economics reports. Sales have been poor since 2000, Investor Economics also notes, “due to their high expenses, poor performance and lack of liquidity.” The 10 biggest funds experienced, on average, a loss of 5.8% over three years and 3.4% over one year.

While the number of labour funds seems to have blossomed, to some extent this is an illusion. The number of funds rose from 58 at the end of 2003 to 107 by the end of July, 2004. However, new accounting standards have forced labour funds to expense sales commissions against fund assets as they are incurred, rather than amortizing them. As a result, labour fund sponsors have created “clones,” so that commission can be tied to specific classes of investors.

Four new sponsors ventured into the labour fund industry last year: Algonquin Venture Management, Altruista Fund and Pender Fund Capital Management, each with a single fund, and IPM Funds, with three funds. The latter, after attracting only $1.2 million, wound up the funds in September.

That bears on a point analysts often make: size matters. Indeed, Ontario has instituted a moratorium on new funds, while making it easier for existing, weaker funds to be consolidated.

The LSIF industry is highly concentrated. According to Investor Economics data, the top two sponsors, VenGrowth and Growth Works, hold 47% of the market, and the top 10 hold 88.7%. There are 27 labour-fund sponsors. The biggest 10 funds account for 64.2% of the assets. The top three funds, VenGrowth II, VenGrowth I and Canadian Medical Discoveries Fund, each with assets of more than $300 million, account for about 30% of total industry assets.

Filed by Scot Blythe, Advisor.ca, scot.blythe@advisor.rogers.com.

(10/25/04)