Labour fund performance bonuses

Question: I’ve been looking into investing in labour-sponsored funds because of the tax savings, but most of them seem to pay extravagant performance bonuses to the fund manager even though they all have approximately the same MERs. Would it be better for me to invest in a fund which gives all of the returns to its shareholders? Why don’t fund managers include performance bonuses in the cost of managing the fund? – B.J.S.


Not only do many labour funds have performance bonuses for managers but this policy is being increasingly applied to regular mutual funds as well. Typically, these bonuses come into play when a fund’s performance exceeds that of a particular benchmark (like the TSE 300 Index) by a specified amount.

You have to read the fine print to see just how onerous the bonus might be. For example, some funds do not pay any bonus if the portfolio has previously underperformed. There is a formula whereby the fund must, in effect, catch up before future bonuses will be paid. Also, you need to see if there is a cap on the bonus, or if it is open-ended. The worst situation is a bonus formula that takes no account of past results and h no cap. That means the manager could reap huge rewards at investors’ expense for just one strong year.

Of course, the bonus is designed as an incentive to maximize returns. However, all fund managers should be seeking to do that anyway as part of their fiduciary responsibility to investors. That’s why I am not a big fan of these provisions.

In the end, however, what matters is how well the fund does. If you end up with a 30% gain while all the other funds in the category are returning 10%, you certainly won’t complain because you had to pay the manager a bonus.

So my advice is to be aware of any bonus provisions, but don’t make them the main criterion for an investment selection. – G.P.