Thursday, March 13, 2008

Mutual Fund Full Disclosure

Many investors seem unaware of the fees they pay to own their mutual funds. Disclosure rules are intended to prevent this sort of problem, but they don’t seem to be effective enough. In an earlier post, I discussed the possibility of including fee summaries on financial statements.

An even better time to properly disclose fees is when you first start working with a financial advisor. Suppose that you meet with a financial advisor and agree to invest with her. She seems like a great person, and her investment advice seems sensible as far as you can tell. Then she hands you the following disclosure statement:

Initial portfolio size: $150,000
Initial investments: 30% bond fund, 50% stock fund, 20% international stock fund
Estimated Fees:
Immediately: $6300
Year 1: $3135
Year 2: $3324
Year 3: $3526
Year 4: $2718
Year 5: $2781
Year 6: $2838
Year 7: $4815
Year 8: $5164
Year 9: $5540
Year 10: $5944
10-year total: $46,086

Gulp. Surely these can’t be right. Will you really pay this much? Yes, you will. These numbers were calculated based on the fees charged by three popular mutual funds offered in Canada. The bond fund has no load, the stock fund has a deferred sales charge, and the international stock fund has a front-end load. The dollar amounts assume a 4% per year return in the bond fund and an 8% per year return in the stock funds.

This type of disclosure would be a real eye-opener for investors and would make it harder for financial advisors to hide fees. It might also encourage more competition on fees among mutual funds.

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