2. Discounting feesFees may sound minuscule at 1 percent or 2 percent, but they can gouge your returns by thousands of dollars.
"It's hard to beat the stock market," says MarksJarvis. "There's one thing you can control and that's what you pay to be a part of the stock market, and that's where the expenses come in."
While all mutual funds have expense ratios, which cover investment advisory, administrative services and other operating costs, some are much higher than others.
"Let's take a $10,000 investment that earns an annual return of 8 percent before expenses for 20 years," says Greg McBride, senior financial analyst for Bankrate. "If the money is invested in a fund with an expense ratio of 1.25 percent instead of an index fund at 0.25 percent, the investor would incur an additional $4,128 in costs over that 20-year period. But the ending account value of the higher expense fund would be $8,000 less than if invested in the lower expense fund because of the loss of compounding on the money paid out in expenses each year."
To complicate matters, some funds impose sales charges or loads. Load funds are only available through an investment adviser or broker who is compensated by sales commissions.
1 percentage point difference in fees
|Chart shows growth of $10,000 over 20 years, assuming an 8 percent annualized return.|
Picking no-load funds is one way to save money on fees. Instead of going through a broker, call a mutual fund company directly to purchase a fund.
"If you were paying your broker 5.75 percent for a load, you would say to yourself, 'Well, that's the cost to play, I might as well pay it,'" says MarksJarvis. "But if you were putting $10,000 into the fund, that would mean you were giving your broker $575 to pick that fund for you and that you were putting $9,425 to work."
While it might be worth paying a load if you don't have the time or inclination to make your own investment choices, just remember, it's hard, even for a skilled money manager, to make up for those extra fees.
"The fees will be higher for those funds," says John Pallaria, adjunct professor in the CFP program at Boston University, "but in return they're getting competent advice which will, in theory, give better results to offset the cost."For no-load mutual funds, investors should aim to keep their annual expenses under the following thresholds, according to McBride:
Don't pay too much: Fee guidelines
- Active domestic equity: 1%.
- Active international equity: 1.25%.
- Active bond funds: 1%.
- Index equity/bond: 0.5%.
Learn more about expenses