In fact, of the total assets held in stock funds, 90% are in funds with below-average expense ratios, according to the Investment Company Institute’s (ICI) annual fee study. The ICI is the trade industry group for the mutual fund industry. According to the ICI release, researchers claimed the fee decline has been most pronounced among stock and bond funds for which fees and expenses paid by investors have dropped by more than 50% since 1980.
In order to evaluate the costs, ICI reached an estimate of total fund fees by combining one-time sales loads and ongoing expenses into a single measure of fund ownership costs and adding a fund’s annual expense ratio to an estimate of the annualized cost investors pay for onetime sales loads.
Lack of Fund of Funds Inclusion
The study only compared stock funds, and did not include fund of funds, despite a significant interest and increase in usage through the introduction of lifecycle and lifestyle funds. There has been increased interest in such funds as they have been used in retirement plans and they are frequently criticized because they often charge a fee on top of the fees for each underlying fund.
“Because of their special structure, the inclusion of funds of funds can only raise the asset-weighted average expense ratio,’ the report says; “thus, excluding funds of funds could produce an average expense ratio that understates the expenses that shareholders actually incur for investing in stock funds.’ However, ICI said the inclusion of funds of funds would have little effect on either the level or trend in the average expense ratio of stock funds, saying the level of the expense ratio of stock funds would be boosted by 1 basis point or less up until 2005 and by 2 basis points thereafter. Therefore, “regardless of whether funds of funds are excluded or included, the average expense ratio of stock funds would have fallen by 2 basis points in 2006 and by more than 10 basis points over the past decade.’
Despite that contention, ICI’s report says that because continued interest in such funds could begin to add more to the average expense ratio of stock funds, future ICI updates on mutual fund fees and expenses will monitor the fees and expenses of funds of funds.
According to the ICI report, stock fund investors on average paid 107 basis points in fees and expenses in 2006, a drop of 4 basis points from the year before, while bond fund fees and expenses fell to 83 basis points in 2006, a decline of 5 basis points. Over the past five years, the average expense ratio of stock funds has dropped 11 basis points, according to the report.
In 2006, the average maximum sales load on stock funds was 5.28%, but the average sales loads investors actually paid was just 1.31%, owing to load discounts on large purchases and waivers on purchases through 401(k) plans.
Investors’ preference for low-cost mutual funds is reflected in their purchases of both actively managed and index mutual funds, according to ICI. For example, during the 10-year period from 1997 to 2006, 90% of investors’ new purchases of stock funds went to those funds whose expense ratios were below the average expense ratio of stock funds offered in the marketplace.
A copy of the study results is available at http://www.ici.org/new/fm-v16n2.pdf.