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How A Mutual Fund Expense Ratio Works

March 12, 2012 | Comments: 0 | Views: 169

Understand A Mutual Fund Expense Ratio

So, you've heard that it's important to check out a mutual fund expense ratio before investing in one. But what makes that so important? A mutual fund expense ratio is a glimpse at how much money is required for a company to even keep the investment going. It is reflective of costs that are accrued daily, and has a direct effect on the returns that a fund will produce, and how much money an investor will be able to keep in their pocket. These ratios can be very different across multiple funds. You can determine how great a fund's return will be by looking at its expense ratio. There is a world of difference between a fund with a 0.3% ratio and a 2% ratio.

Calculating A Mutual Fund's Expense Ratio

The ratio is calculated by taking the fund's operating expenses and dividing by the average value of all of its shares. A large majority of the expenses paid by a fund is the fee charged by the manager. However, other factors, such as rent, operating costs, legal and accounting fees, as well as record keeping, mailing, and other administrative costs, are included as well. Some funds may even have 12b-1, or advertising fees in their expenses. Regardless of any money gained or lost, this fee will be charged to investors. Because ratios can vary, you should pay attention to the ratio of whatever mutual fund you are interested in, as that will help you to know whether its charged will be too much for you to handle.

How Companies Adjust Their Expense Ratio

It's impossible to avoid any and all fees when investing, but companies are able to control how high their expense ratio is by how they manage their fund. The more actively that a fund is managed, the higher their manager's fee will be. Depending on whether they have 12b-1 fees, just how much advertising the company does will also affect the level of expenses. Staff size and office location make a difference on costs, too. Smaller funds, or those in specialized corners of the industry, have been known to have ratios of 2% or higher. But less actively managed investments, such as index funds, could have expense rates as low as 0.2%. Two things that are not taken into account when an expense ratio is compiled are sales charges, known as loads, and redemption fees. These are paid directly by investors, so make sure to read up on what those will be.

Connor Swinney is the owner of the What Are Mutual Funds website. He created the website to be used as a resource for people who are looking for more information on Top Mutual Funds Companies or that would like to know how they can create a successful investment strategy.

Source: EzineArticles
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