Given we just finished another quarter, and all of our clients will receive their quarterly packages from us, including a letter sent from our Independent Review Committee (IRC) member, I thought I would take the time to explain more about what our IRC is, what the IRC does and why it is so important to us.
First of all, an IRC MUST be established for ALL Prospectus-based funds. A Prospectus-based fund is a fund that has been approved, ironically, by the Ontario Securities Commission (OSC) for sale into retail systems (that is to say, through the Investment Advisor network). Think: mutual funds, Exchange Traded Funds (ETF's), Closed-end Funds, etc. I say ironically because, in the case of mutual funds, the fees associated with these things are ridiculously high in most cases. Isn't this where retail investors actually need protection from the regulator? Anyway, enough about my pet-peeve...all of these types of prospectus-based funds MUST have an IRC.
An IRC is, in effect, comprised of at least three Independent Members. These Independents are responsible for the overall governance of the operations of the fund. The IRC is put in place to ensure that the Fund Manager follows all of the protocols and effectively "does what they say they are going to do". Things like: approving the annual audited reports, ensuring the Fund or Portfolio Manager invests according to the mandate of the fund with regards to investments and restrictions, etc.
Now an interesting point is, who pays for the IRC? Guess?? You do. The IRC fee (usually around $15,000 to $50,000 per year) is paid out of fund expenses. Who pays for fund expenses? You do. The IRC, like all of the other fund operating expenses, (auditor fees, management fees, IRC fees, trade settlement costs, etc) form what are called the Management Expense Ratio (MER), which you have probably heard about. MER's are those hidden or embedded fees that the fund charges you to invest in their fund. Most MER's on prospectus-based funds run around 2+% per annum. Make no mistake, you pay when you own a prospectus-based fund. So the Fund Manager picks the IRC Members of their choosing (they typically pick folks they know well) but you end up paying for the IRC through the MER you pay! How crazy is that? One could even argue there is an inherent conflict of interest by the Fund Manager choosing the IRC but then having you pay for them..
All-in-all, the reason all of these prospectus-based funds are mandated by the securities regulator to have an IRC is to protect the retail investor. And from first-hand experience, I can tell you that the IRC Members on the two funds High Rock manages for Scotiabank are real due diligence folks. They do their job and hold my feet to the fire on every quarterly Board call. Keeps me sharp and ensures the investors in those Scotiabank funds are protected on several levels.
Now onto High Rock's IRC.
When we started our Private Client Division (two years ago) to manage our own money and that of some family and friends, I said to Scott, "what about forming an IRC to give our clients the knowledge that someone with experience is looking out for their best interests?". Scott thought it was an interesting concept and one we quickly agreed was the right thing to do.
The first thing to understand is that, we do NOT need to have an IRC within our Private Client division. The reason we don't is because we don't manage our Private Client accounts on a prospectus-fund basis...we manage all of our private client accounts on what is called a Separately Managed Account (SMA) basis. (The two funds we manage for Scotiabank are prospectus-based funds and therefore, Scotiabank being the Fund Manager, has hired and formed the IRC for those funds).
Next up is explaining what a SMA is. An SMA means that you own the account and all of the securities in it and, because it is always yours, you are free to transfer out of High Rock any time you want with no fees or deferred sales charges, like on some mutual funds). All you do when you sign up with High Rock is sign an Investment Management Agreement (IMA) that gives High Rock the authority to manager your account on a fully-discretionary basis (which we are registered to do by the securities regulators in Ontario, BC, Alberta and Saskatchewan).
There are two main benefits to managing all of our private client accounts on a SMA basis:
Did you catch that in point 2 above? That's right, High Rock pays for our IRC out of our Management Fee. Technically, yes, you are paying us, so you could argue that you are in fact paying for the IRC. BUT, we are NOT required to have an IRC (SMA vs prospectus-based funds), so we could pocket that money that we pay the IRC. But we choose to have an IRC and are happy paying the IRC fee each quarter. High Rock formed our IRC two years ago on a Voluntary basis...not something we were required to do.
Who is our IRC and what exactly does it do?
We chose Wychrest Compliance Services to be our IRC Member. Wychrest is a third party Compliance firm founded by Jonathan Heymann (a former OSC staffer). Jonathan does do some compliance reviews for High Rock to ensure we are fully up to date on the ever-changing and highly-complex requirements put on us by the OSC acting in our capacity as a registrant Portfolio Management company. Because of these reviews, Jonathan is pretty familiar with High Rock. Things like: our registration is up to date, our cybersecurity platform is robust, etc.
Wychrest reports to our clients at the end of each quarter (coming soon to existing clients). When we contracted this out to Wychrest, we asked that he write a formal letter to all of our private clients at the end of each quarter. We asked them to set the bar pretty high and hold our feet to the fire on a few items, like:
We have this letter from the 4th quarter of 2016 at the bottom of each page on our website so feel free to have a read for yourself: highrockcapital.ca/uploads/3/4/2/5/34254660/hrcmi_ircreview_december2016.pdf. And I can tell you, Wychrest is very happy for existing or, even prospective clients, who want more information, to contact Jonathan directly to discuss.
This IRC is a very important part of High Rock's Private Client division and is for the sole benefit of our private clients.
I had a discussion about two years ago with a senior lawyer at the OSC where I told him that the new "disclosure rules" on what fees Advisors were receiving just didn't go far enough. I told him that 99% of the retail investors I talk to didn't fully-understand what MER's were and how they can erode a portfolio over time. He was shocked. (You can read some of what I discussed with the OSC in an article in the Financial Post written by Barry Critchley on June 2, 2015:business.financialpost.com/news/fp-street/high-rock-capital-management-leads-the-charge-on-fee-disclosure:
When I told this lawyer at the OSC that we had, voluntarily, formed an IRC, he thought that was a very interesting and novel approach, so novel in fact, that he stated (at the time, but we believe we still are) that High Rock is the only Portfolio Management company in the country, managing accounts on a SMA basis, to have voluntarily formed an IRC.
We could have kept more of the money you pay us but we see our IRC as extremely important to us (and our clients) as we build trust amongst our existing clients and hope to do so with prospective and new clients.