Wednesday, 13 June 2012

Labour-Sponsored Rip-off

The union labour movement likes to think of and to portray itself as fighting for the common man, for fair dealing, for social justice, for honesty in business and so on. At times it does, witness its support of an expanded Canada Pension Plan.

Why on earth then would it continue to allow its name to be besmirched with one of the unmitigated disasters of investing for the common retail investor, the horribly exploitative abomination known as the Labour-Sponsored Investment Fund (LSIF), also called the Labour-Sponsored Venture Capital Corporation?

The history of LSIFs according to Wikipedia had a naively noble origin - fledgling companies need capital to thrive and grow, so the labour movement pushed the government to give generous tax breaks to average joe retail investors putting money into funds that would invest in these companies. It would stimulate the economy and create jobs. Professional managers in the funds would research and figure out which were the best small companies to choose. So the theory went.

The reality is that putting money into any old small company doesn't work. Many, indeed, most companies don't survive and grow, they unfortunately wither and die. And when the incentive structure is such that the fund managers make a lot more money a lot more easily from collecting high fees than on choosing future star companies, which is hard to do at the best of times, while the managers have none of their own money at stake, putting money into any old company with a cool story is the easy way out. The recipe was set for LSIFs to fund weak companies and provide little or no lasting job creation in the real economy while uniformly losing money for investors and allowing financial managers to systematically strip money through exorbitant fees (like 5, 6, 7, 8% annually).

The proof is in the pudding, and it has been for a long time. Go to Morningstar Canada and pull up a table of current LSIFs. There are seven with a positive 10-year return out of 82 funds, not bad you might say since they outnumber the six with a 10-year loss. It's not so good, however, when we remember that many long term losers disappear through being bought and merged into other funds. Two examples are the Capital Alliance Ventures Inc and Canadian Medical Discoveries Fund, both of which started back in the 1990s and have ended up folded into the GrowthWorks Canadian fund (I traced the history of these funds in this post last year). Here's a telling chart from Morningstar that shows the downward slump of CMDF and of the overall Retail Venture Capital Index compared to the BMO Small Cap index.

The CMDF is now in dire straits. Thanks to Ken Kivenko sending on the news published here and here in the Financial Post, we learn that CMDF is essentially insolvent. Fundholders are caught between the proverbial rock of not being allowed to withdraw funds and the hard place of being asked to approve CMDF taking on a loan merely to pay the managers' fees. It's inevitable that fund investors will lose big time, sooner or later. Yet the show is allowed by government (by the feds and some provinces continuing to offer a tax credit) and regulators to go on.

Why for example, has the Canadian Federation of Labour, the labour sponsor of the GrowthWorks Canadian Fund, not intervened through its majority (it nominates 8 of 12 directors) control of the Fund's Board, to say enough is enough, it's time to liquidate and wind up the fund before all the investors' money is sucked out of it? I'd like to see how differently labour Directors like Joseph Maloney and Edward Power, both of the International Brotherhood of Boilermakers, Iron Ship Builders, Blacksmiths, Forgers and Helpers and both on the Board since 2006, would react if they had more than their share ownership of exactly zero. (None of the labour directors have a big stake in Fund shares.) Of course, if the fund were wound up, messers Maloney and Cole would not collect the $16,000 or so in director fees they got last year.

Though the Canadian Federation of Labour doesn't take a fee from the GrowthWorks fund, in some cases the union itself does collect an on-going trailer fee. For example, the Canadian Police Association and the Association of Canadian Financial Officers are co-sponsors of the Covington Fund II. They collect an annual fee of 0.16% of the fund's net asset value, which turns out to be a tidy $480,000 based on the Fund's $300 million NAV (as of February 2012, per the Semi-Annual Report filed on All that for lending their name. Of all labour groups, one would think that police and financial officers would recognize and not want to take part in a rip-off scheme.

Disclosure: I am not neutral on this topic since I owned shares of both CAVI and CMDF and lost most of my investment before I managed to sell out a few years ago.


Neil Milton said...

All too true.

The entire LSVCC industry has been an unmitigated disaster for investors - all as a result of bad structure (government) and bad governance, and outrageous fees.

Among the many problems were there were far too many small funds, without the cash, management, distribution, or reach to invest cost-effectively for the long term.

A horribly run fund that you did not mention was Retrocomm - it was designed to do high yield lending in real estate, and still managed to go bankrupt.

In addition to investors, another group that suffered as a result is technology companies. Canada does not have a lack of capital - it is awash in capital - but technology companies cannot raise money, and one reason is the atrocious track record left by most VCs in Canada, many of whom were LSVCCs.

Pacific said...

I appreciate you standing up for what is wrong in the financial world. I was in these funds years ago, and fortunately learned my lesson with only minor losses.

farmland investment said...

I wonder about looking at European dividend stocks as well? For example, Siemens pays a good dividend, and many of their businesses are in growing sectors. While the Eurozone is a risk, an increasingly large part of Siemens' business is done in emerging markets. Plus, if the Euro breaks up, the D-Mark would rise sharply. Some of the large telcos in Europe also offer substantial dividends as well, but there one has does have very high exposure to Euro risks.

CanadianInvestor said...

Thanks farmland, interesting idea. In the course of researching this week I noticed some of the european country ETFs have extremely low average P/Es. Maybe some of the stocks inside are getting sideswiped by all the Greek and Spanish problems.

The DIY Investor said...

European shares have definitely taken a knock but now is a good time to invest if you have the money.

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Dave said...

I got conned by Edward Jones into buying into some of these ridiculous government labour sponsored funds back around 2006. Over the many years the funds have been rolled over into some other dismal funds. I have some Growth Works Canadian and Covington II. One has lost 83% since day one, the other lost 90%. I hate seeing them on my financial reports. Its just a reminder of how bad these programs are.
I must say though that they are very consistent! You are guaranteed to see the NAV go down every singe month! Its an eye sore that won't go away. By the time I can get my money out it won't even be worth my time. I'll have lost 99.9% and likely get back 2 bucks lol!

I get my money's worth however by phoning up these rip off companies and giving them a piece of my mind every now and then. Pathetic how the gov't allows them to continue to force investors to keep this crap. I'd gladly sell this junk for 10 cents on the dollar just to get rid of it for good and buy myself a bottle of wine (would have to be a cheap bottle). It's all going to zero eventually.

It's also mind boggling that the government still allows and 'sponsor' this crap to unsuspecting would be investors here in Canada!

Anonymous said...

I got conned by a financial advisor to buy the Covington LSIF for the tax break back in the year 2000. I was young and stupid and invested $6000.

I ended up going abroad and forgetting about them, they got acquired by CI Funds. I returned last year, and found out that my LSIF investment is now worth $750. What a joke. Downright criminal!

I hope to get rid of these things asap...makes me sick! I wish I could press charges.

CanadianInvestor said...

Anon re Covington ... my sympathies. In the absence of regulatory supervision and intervention, this is what inevitably has happened.

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