Hidden and undisclosed costs fees and commission in Mutual funds which brokers will never tell you while investing money
"I helped put two children through Harvard - my broker's children" - Michael LeBoeuf
How much does investing in mutual funds cost? If you ask this question to your mutual fund broker or your money manger, he will refer you to the mutual fund prospectus. However, there are many costs that are (legally not obliged to mention) not listed in the prospectus. The main aim of this article is to share with you some of the hidden costs that I know about.
Many investors have little idea about the different kind of costs, disclosed and undisclosed that are associated with investing. Read the first few pages of the mutual fund prospectus . The SEC requires that the fees and other expenses be displayed in the first few pages of the prospectus.
Fees not mentioned in the prospectus
- Hidden Transaction Costs (HTC) : This costs include brokerage commission, bid-offer spreads and market impact costs.
- Brokerage commission (BC): Average brokerage costs for mutual fund managers is around 0.38% of fund asset.
- Soft-Dollar arrangements (SDA): Some mutual fund companies have SDA with their broker. In addition to the commission, broker is being paid for providing additional benefits to the fund manager.
- Spread costs (SC): There is also a spread cost, which is the difference between the dealers bid and the ask price.
- Market Impact cost (MIC): Fund managers usually buy more stocks and bonds than offered at the prevailing price. This forces them to raise the offer above the prevailing price.
- Wrap Fees (WF): If you need private money managers, you will be charged WF. Please AVOID WF.
What is Turnover?
When you talk to your broker or money manager , he may use a term 'Turnover'. Turn over is the amount of buying and selling in a given year. Turn over is expensive. A study has found that funds with low turn over has higher average returns.
As you can see the costs incurred by the investors in US equity funds are numerous and many are hidden.
The results of a study by Bogle Research Center and reported in the book 'The Bogleheads guide to investing' is given below. It will give you an idea about how much is the total annual costs of US equity mutual funds.
Total Average Costs of US Equity Mutual Funds
Average Equity Mutual Fund
Percentage of Average Assets
Other operating expences
Total expense ratio
Total Annual Costs
Next time you meet your broker, ask him how much is the HTC of the the mutual fund? He may reply that he don't know what is an HTC. If he doesnot know what HTC stands for, educate him. Tell him to read Emdi's articles on hubpages :-)
Did you know about these hidden costs before?
According to Morning Star study , the predictors of future mutual fund performances are past performance, expences, turnover, manager tenure, net sales, asset size, alpha, beta, standard deviations, and the sharp ratio. However, the conclusion of the study is that the only reliable predictor of future mutual fund performance is the expence ratio.
Let me conclude this article by suggesting that low cost is the best predictor for selecting funds with above-average performance. Lower the costs to improve the return.