By Neil Jensen

As I outlined in an earlier post, we feel that our fee reduction program is unique in rewarding clients who entrust more of their money with us, and who keep it with us for an extended time. In this posting, I’ll delve in to some of the gory details of how we calculate and pay out management distributions (MFR’s).

Background: How the Funds Pay Fees

As with other mutual funds, unitholders in our funds do not pay managements fees directly. Instead, the fund itself is charged the management fee on a daily basis - the fee is an expense of the fund and therefore reduces the returns that the fund generates.

As a simple example, a $100 million fund with a 1.00% MER would be charged the following management fee expense each day:

$100mm x MER/365 = $100mm x (1.00%/100) x (1/365 days) = $2,739.73/day

If the fund’s assets remained unchanged over the year, the total management fee expense to the fund would be:

365 days x $2,739.73/day = $1mm (or 1% of total assets, as expected).

Of course, the total value of the fund changes daily due to inflows/outflows and the fluctuations in the values of the securities held, so the management fee charged each day also changes.

While the management fees accrue daily, they are actually paid to the fund manager on a monthly basis. This is how Steadyhand generates revenue.

The fund itself does not track the portion of the fee that each unitholder pays each day, it only accrues the total management fee expense of the fund.

Reducing Fees Through Management Distributions

While the fund doesn’t directly track the allocation of the management fees to each unitholder, it is possible to calculate it, using the same math as above.

The management fee that each unitholder in a fund “pays” each day is:

(unitholder assets) x (fund fee %)/100 * (1/365) = daily fee

For example, an investor who held $10,000 in our Income Fund (which has a simple fee of 1.0%) would “pay” the following fee each day:

$10,000 x (1.0/100) x (1/365 days) = $0.27

Because unitholders don’t pay management fees directly, we aren’t able to individually reduce the fees. However, we are able to reduce management fees individually by paying unitholders management distributions, or 'MFRs' (i.e. additional units given to the unitholder at no cost to them). This reduces the effective fee for the unitholder.

Steadyhand pays for the MFRs distributed to unitholders, thereby reducing the effective management fee that we receive from the funds.

When direct clients (i.e. those who do not purchase our funds through a broker or third party) open more than one account and indicate that they wish to consolidate their accounts, we create a “portfolio” for them. This is simply a portfolio ID that is assigned to all of the accounts they hold with us. Management distributions are paid on each fund held in each account in a portfolio. The same reduced rate is applied to all of the holdings in the portfolio.

The key to all of this, of course, is calculating and tracking the amount of the management distributions due to each unitholder.

Calculating Management Distributions

In the same way that the funds calculate and accrue the management fees each day, we calculate and accrue the unitholder MFRs daily as well. The calculation and accrual is done in our recordkeeping system, which tracks the units held by each unitholder in the funds.

The first step in determining the daily reduction accrual amount is determining the overall portfolio discount rate for that day. Discounts are based on the total assets under management in the portfolio as described here, and are applied in tiers (i.e. the first $100k is at the full fee, the next $150k is at 80%, etc.). As shown in the fee calculator tool, if a unitholder had $150k in her portfolio of accounts, her management distribution amount would be 6.67% of her fees paid that day.

Once we have the overall discount rate for the portfolio, we apply it to each holding in each account in the portfolio and calculate the management distribution in dollar terms for the day. This is determined by using the formula:

daily reduction amount per holding = (fund holding $) x (fund fee)/100 x (1/365days) x (discount rate/100)

For example, if a couple held $250,000 in their portfolio on a given day, the reduction percentage for that day would be 12.0%. If one of the holdings in one of the accounts was $20,000 in the Income Fund (with a 1.0% fee), the reduction amount for that day would be:

$20,000 x (1.0/100) x (1/365) x (12/100) = $0.06575

As a simple check, the annual fee that would normally be paid on an investment of $20k in the Income Fund would be $200 (1% of $20k), while the total reduction amount would be 365 x $0.06576 = $24, which is 12% of $200. When we pay out the $12 of MFRs to that holding, we are effectively reducing the fee paid by the unitholder by 12%.

The daily reduction amount is added to the accrued reductions for each holding. In other words, for each fund that an investor holds in their portfolio, we calculate the day’s reduction amount and add it to the current accrued amount for that holding.

Paying Out Distributions

Each month the accrued management distributions amounts for each holding are paid out to unitholders in the form of distributions (MFR’s), thereby increasing the number of units the client owns. The accrual ‘buckets‘ are reset to zero to begin accruing again the next day.

If a client redeems a fund entirely, the management distributions are first paid out and then the redemption is processed so that they does not lose the accrued MFR’s.

Reductions generally begin accruing on purchase trade settlement dates (when the money is received by Steadyhand), and stop accruing on redemption trade dates (when the order is received/processed).

Reductions are taxable in non-registered accounts and show up on client T3’s. They also increase the cost base of the holdings.

Finally, reductions lead to higher performance, as they increase the market value of a position without requiring a corresponding cash outlay from the unitholder.