The Importance of Fund Fees and Expenses on Earnings

Many investors fail to realize the implications that fund fees and expenses have on the performance of a mutual fund. When you invest in a mutual fund, you should pay special attention to the amount of fees and expenses that are charged. Here are the basics of fund fees and expenses and why they are so important to you as an investor.

Fund Fees

When you purchase shares of a mutual fund, you are going to have to pay some type of fee. Some mutual funds charge a front-end load which means that you will pay a certain percentage on the front end of the transaction. This fee works as a commission for the broker that sold it to you. Other mutual funds will charge a fee on the back end of the transaction. When you sell the shares of the fund, then you will be charged a fee. In most cases, the longer that you hold your shares in a fund, the lower the back end fees will become.

While these fees may not seem like a big issue, they can really eat into your returns. If you are the type of investor that likes to frequently buy and sell shares of mutual funds, these fees can effectively negate any gains that you earn. For example, it is not uncommon to pay 5 or 6 percent in transaction costs when you buy into a mutual fund. Considering that the annual return of the fund might also be 5 percent, you can see that you will need to hold your shares for a long period of time before any profit will be realized. When you consider these aspects, mutual fund investing suddenly becomes a more long-term endeavor.

Expenses

Something else that you will need to pay attention to when investing in mutual funds is the expense ratio. The expense ratio is a percentage that is taken out of the earnings of the fund each year. This expense ratio helps to pay for the salaries of the fund managers. This ratio also covers the administration costs of the mutual fund. It will pay for basic overhead costs such as leasing in office and paying the salaries of the administrative employees.

This percentage can vary greatly from one mutual fund provider to the next. Therefore, you will want to make sure that you do some research and find a mutual fund company that has low expense ratios. These fees can quickly eat into the money that you earn each year. For example, you might pay 1 to 2 percent and expense ratios and only earn 5 or 6 percent on the year. This means that a big percentage of your earnings is going right back to the mutual fund company.

Some mutual funds also charge what is called a 12b-1 fee. If you see this fee being charged by a mutual fund, you might want to consider not investing in it. This is basically a fee that is charged in order to cover advertising expenses for the fund. It essentially does you no good but it does come out of your earnings.

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