Same Fund, Different Investment Returns – How Costs Can Really Cut Returns

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Although not apparent, mutual funds with the same name may generate different returns due to investment costs. In Can Women Really Retire Successfully Investing in Gender Equality?, I highlighted that the Calvert International Equity Fund made the list of highest gender equality scores four times. .

Interestingly, each of them had different letters at the end of their name. They also had different expense ratios. Note that the returns from the higher expense ratios are lower than those from the lower expense ratios. An expense ratio is how mutual fund companies estimate the costs to investors for the work they do as well as the costs to get their funds to you.

Simply put, depending on the distribution channel and quantity of a mutual fund purchased, costs can vary. This variable cost per distribution channel can be compared to buying toilet paper from various places. At a convenience store, a single roll is usually more expensive than if you bought several (in a package) at a grocery store. If you purchased in even higher volume, say at Costco, the unit cost would be even lower. However, you may have a storage problem or need to invest in more space to accommodate the most important purchase!

Share classes, distribution partners and expense ratios

Expense ratios can be associated with share classes. Share classes vary from one another in their annual operating expenses, sales fees and commissions, and account-level fees. This fund comprises four classes of shares: the A share, the C share, the institutional I share and the Retirement R6 share. Note that each share class above has its own stock symbol.

According to Morningstar, A part are generally the most profitable for long-term investors who use a commission broker to trade. There is often a minimum investment of $2,500 or less.

Typically, the maximum initial outlay (non-refundable deposit) is between 4% and 5.75%. You may have heard of what is called an initial charge. There are ongoing fees for the broker between 0 and 0.5%. This is known as a 12b-1 fee. These fees pay for the distribution costs of a mutual fund. It is often used as a commission for registered representatives (brokers) for selling the fund.

C-share classes generally have investment minimums which are the same as A shares. They do not include acquisition costs, but their cost rate is higher than the A share. These sales costs generally correspond to costs annual recurring 1% used to compensate registered representatives.

R-share classes are available through retirement plans. Employers who sponsor retirement plans for their members purchase these shares. The fees charged by these funds vary widely. It is common to see share classes R1 to R6 vary by 1.0 percentage point in terms of expense ratio.

Large institutional buyers buy the I share class. They have low expense ratios, if not the lowest. Generally, the minimum investment is $250,000 or more. Investment advisor representatives and investment consultants use the I share class and add their fees on top of these mutual funds.

Get a Fund Fee X-Ray

Expense ratios influence investment returns. The Financial Industry Regulatory Authority offers this FINRA fund analyzer to help assess expense ratios. The Fee Analyzer starts by making sure that the initial investable amount, return on investment expectation, and inception date are the same.

This example assumes an investment of $10,000 over 10 years, with an expected investment return of 5.0%. These are the results of my using the analyzer on March 13th. The page number mentioned later is from printing to an Adobe .PDF file.

Share Class Costs for Calvert International Index Fund

Based on this hypothetical situation, there is a difference of $1,118 between the highest and lowest expense ratio. If you knew the representation fees of investment advisors, you can add them for a true apple-to-apple comparison.

However, we should look at the actual returns, not the assumed return to isolate the fees. Morningstar provides this data on page 15 of the analysis.

Average annual return as of March 13, 2022

The chart shows that investments with the lowest expense ratios have the highest returns. This result is expected given that the fund invests in the same companies in the same proportions varying only according to cost. However, this may not be the case when comparing different investments from different companies.

How should costs really affect your investment decision-making?

Cost is just one of the factors you need to consider when investing. My discussion started with a desire to invest in mutual funds with A grades on gender equality. That may be why you choose a mutual fund.

Depending on your situation, you may not have a choice of share class. That shouldn’t stop you from investing in your favorite fund. The most difficult problem may be finding investment choices that match your values.

You may be able to overcome this by investing more money or extending your time horizon. Hopefully, this will make you a smarter investor in pursuing your goals, aligned with your values.

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