Investing 101: What Are the Fees I Pay for My Investment Fund?

September 30, 2014

One of the least talked about facets of investing in funds is the fees that investors pay to purchase and own the fund. Strangely many investors are embarrassed to ask, “How much does this cost?” The investment industry is complacent on this issue by billing the fees directly to the funds and not sending a separate invoice to the investor showing exactly how much he paid.

Nobody sits down and writes a check to pay their investment management fees so they often don’t know what they are charged. Can you imagine any other product or service that you buy that you don’t know what the fees are? Fortunately there are laws that require all fund managers to disclose this information to investors. Unfortunately, most investors don’t know where to find this information or how to interpret it.

Why are fund fees important?

Even small differences in fees can add up to large differences in your investment returns over time. A SEC investor bulletin shows how a 0.25% in fees over a 20 year time period on a $100,000 portfolio reduces the return by $10,000. But wait! It gets worse. One of the founders of low cost index investing Charles D. (Charlie) Ellis has pointed out that fees are quoted as a percentage of assets managed. The investor already owns the assets and the managers are hired to generate a return on the assets. He reasons that the fee should be expressed as a percentage of the investment return not the assets. Looking at fees this way you can see that a very large portion of your investment returns are handed over to the managers as fees.

What types of fees are charged by the funds?

Some of the fees are charged when you purchase or sell your fund shares while others are charged annually on an ongoing basis. The shareholder fees are charged to you for actions that you initiated and are unique to your account. The annual fund fees are distributed across all the shareholders of the fund. Examples of shareholder fees include sales load charges, redemption and exchange fees, and purchase fees which the fund can charge to defray cost to the funds resulting from your purchase.

Annual fees include investment management fees, distribution fees, and a broad bucket of fees classified as other expenses. These fees are summed up in the Total Annual Operating Expense of the fund. All of these fees are disclosed in the fund’s prospectus under the heading “Shareholder Fees." The financial industry makes educational tools available to help you understand these fees.

How do you compare the fees across funds?

There are many tools available to help you compare the fees charged by funds. The fees are all disclosed in the fund prospectus and reported to the SEC. Now electronic databases aggregate the fund information and provide software that will filter and sort the results. Independent research firms such as Morningstar offer fund comparisons and ratings. Internet sites can even provide useful information and research such as Yahoo Finance.

How do you decide what’s right for you?

Every decision in life and in investing is a balance act between pros and cons. Asking questions and educating yourself provides you with the appropriate information to make good decisions. Asking about the fees in your investment funds and investigating the alternative allows you to make informed choices. Knowing what fees you pay and comparing them to other products will give you the confidence to know that you are getting good value for your investments.