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 A no-load mutual fund is simply a fund whose shares are sold without commissions or sales charges. Since there are no costs of entry into this type of mutual fund, all of your money is put to work. But how do no-load funds stack up against funds that charge fees?
Mutual Fund Fees
If you were to go to a broker and ask about mutual funds, the broker is very likely to recommend a fund that charges a fee. The explanation will be that funds that charge a fee are trying to be exclusive and therefore demanding a premium from the "serious" investor. But behind the scenes, the broker is getting a slice of that fee as part of a sales commission arrangement with the mutual fund.
Mutual Funds with Loads
In general, there are four main types of mutual fund loads that an investor might encounter:
- Front-End Loads - money paid / fees levied at the time of purchase and payable to the broker.
- Purchase Fees - money paid / fees levied at the time of purchase and payable to the mutual fund's management team.
- Back-End Loads - money paid / fees levied when shares of the mutual fund are sold. This money is typically paid to the broker.
- Redemption Fees - money paid / fees levied when shares of the mutual fund are sold. This money is typically paid to the mutual fund's management team.
One important point that we want to make with respect to fees is confusion about mutual fund management fees and sales fees or loads. As is the situation with any business, running a mutual fund costs money. There are trading costs, exchanges, redemptions and of course the salaries of the persons responsible for actively managing and administrating the fund.
These fees are nominal charges and are a function of the conveniences you get when buying into a mutual fund - they are not load fees. This type of fee would be referred to as a fund expense and is normally indicated on the fund's prospectus in the form of an expense ratio.
Performance of No Load Funds
Recently the premier rating organization of mutual funds, Morningstar, reported that no-load mutual funds actually outperformed mutual funds charging a load or fee over the past 3 - 5 years. Let's take a look at a simple example that should help explain why this is true.
The most common fee associated with load funds is an upfront sales fee or a front-load. Typically, these fees range from 2.5% - 8.0% with 5.0% being the most common fee. If the investor were to invest $20,000 into this fund, they would be starting out with only $19,000 in your account. What did you get for that $1,000 sales fee? You get to start with an immediate 5.0% loss on your investment!
As mentioned earlier, that $1,000 fee is not going towards the management of the fund and it certainly does not get you into any exclusive club of investors. It is simply a commission that is split between the broker and perhaps a couple of others that are involved with the handling of the transaction.
Short Term Investments with Front End Loads
The impact of a front-end load on the funds return on investment is particularly significant for short-term investments. By short term we're talking investment held three years or less. It's extremely difficult for any mutual fund - with the same investment strategy as a no-load fund - to make up the fees in such a short timeframe. This is another reason most investors opt for no-load mutual funds.
If you're in the process of researching mutual funds, we hope this article makes one thing clear - no-load mutual funds are the way to go. Mutual funds carrying a load don't always outperform no-load mutual funds and research suggests they actually underperformed the competition. Don't let a slick sales pitch convince you otherwise - do your own research and look at the facts. The only thing you need to know about load funds is to stay away from them.
About the Author - No Load Mutual Funds
Bill Sharlow is the Editor of Money-Zine.com. Copyright © 2004 - 2007 Money-Zine.com
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