In the late 1700s, the first mutual fund was invented. A Dutch man pooled investors’ money together for diversification and to allow investors to buy into investment deals they could not afford to fund alone. This turned into big business over the next several hundred years.
The High Cost of Traditional Mutual Funds
Vanguard recently wrote an article describing the average cost of a mutual fund. Costs are down from previous estimates, but according to the article mutual funds cost 3.02% per year on average. That number is often as high as 5%. Many of those costs are hidden. If you buy your fund from an advisor, broker, or 401k there could be an additional annual, back-end, or upfront cost ranging from 0-7%
Each year hundreds of billions of dollars in costs, fees, and charges are paid to the mutual fund industry. For those fees, you get a money manager who decides which stocks or bonds you should own. Over the last decade, close to 90% of those managers did not beat the index they are compared to. Investing in indexes is usually very close to free. The cost is nominal.
I have never heard a mutual fund company advise their customers to sell. If you stop investing with them, they stop getting paid, so there is, in my opinion, a conflict of interest. We believe that if you are paying someone for investment advice, you should get unbiased advice.
The Emergence of ETFs as a Low-Cost Alternative
In 1993 advances in technology allowed for the first ETF or Exchange Traded Fund. ETFs are a cross between a mutual fund and a stock. One share of an ETF represents a basket of stocks or bonds that can be traded all day. A mutual fund, in contrast, settles up at the final price of the combined assets for the day. I see the greater liquidity of an ETF as a substantial advantage.
Understanding Index ETFs and Their Benefits
The ETFs we use are known as index ETFs. This means there is no active trading within the fund. This substantially drives down costs. The ETFs we use have a range of expenses from 0.09% to 0.65%. In our managed accounts the weighted average expense last quarter was about 0.23%.
Past performance is not a guarantee of future results, but in the last 1, 5, and 10-year periods, index funds have outperformed 80%-90% of managed funds.
Choosing the Right Investment Option for You
That doesn’t mean that all ETFs are good. The industry that has been charging you billions for centuries isn’t going to give that up. More and more ETFs are created each year that make sure you keep paying the same type of fees you’ve been paying all along. Hidden ones. Having an honest advisor to help you find the low-cost ones is an important piece of your financial puzzle. Finding an honest financial advisor was probably the hard part. Until now.
Get in touch with our team today.