Warning

 

Close

Confirm Action

Are you sure you wish to do this?

Confirm Cancel
BCM
User Panel

Posted: 7/3/2017 2:00:54 PM EDT
All else being equal, is there anything wrong with the following formula to determine the best of two mutual funds?

Investment Amount + Expected Returns - Expense Ratio


Two large cap growth funds:

Fund A: 10,000 + 10,000 * 0.08 - 10,000 * 0.01 = 10,700
Fund B: 10,000 + 10,000 * 0.07 - 10,000 * 0.005 = 10,650

Therefore, Fund A would be the preferred one.

What is wrong with the above?
Link Posted: 7/3/2017 2:27:59 PM EDT
[#1]
Why not just look at the return minus expense ratio and compare that between funds?

The amount you invest is arbitrary.
Link Posted: 7/3/2017 3:05:03 PM EDT
[#2]
Because that would be too simple.

A lot of advice seems geared toward a low expense ratio, but if the long-term returns justify the higher expense ratio, I don't see why a high expense ratio should be an automatic turnoff.  Correct?
Link Posted: 7/4/2017 12:26:25 AM EDT
[#3]
True when comparing dissimilar funds, but the only reason to "tolerate" an excessive (anything above 0.25% or so in my book) expense ratio is to own something you a) absolutely have to have to balance, diversify and/or protect your portfolio and b) can't obtain any other way.  IMO there just isn't a requirement to justify them.

The question becomes in the long run can a given fund actually earn its higher expense ratio via higher returns; the answer is generally no.

Lower expense ratios are worth much more than would appear at first glance since the effect is cumulative over many years:  what's the difference between 0.05% and 0.15%, not much?  It is over a few decades.

Additionally, your typical index fund is going to give you an average return (by definition) of the stocks in said index.  However, when comparing actively managed versus passively managed (I.e. index) funds, the index funds typically rank at the top 25th percentile.

IOW they aren't average but rather beat 75% of the managed funds.  Why?  Lower expense ratio plays a part.
Link Posted: 7/4/2017 12:41:00 AM EDT
[#4]
I just looked over my expense ratios and nearly all of mine (Vanguard) are 0.15% or less; some of my foreign and biotech funds are as high as 0.4% but as stated, that's the price you pay for something you need in your portfolio.

Of course the expense ratio of an individual company stock is ZERO and that's why I hold predominantly individual stocks.
Link Posted: 7/4/2017 10:47:28 AM EDT
[#5]
Thank you.  My highest expense ratio is 0.16% (portfolio average 0.08%).  I started to wonder if I am missing something by sticking with index funds and ETFs only.
Link Posted: 7/5/2017 4:34:33 AM EDT
[#6]
I don't think so; it doesn't take too many funds to have a pretty well balanced and diversified portfolio:  S&P500 core plus some mid cap, small cap and foreign developed and emerging.

One can get a lot more complicated than that, but will it out-return a simple (efficient and low cost) portfolio?  Probably not and not by a lot if it does at all.
Link Posted: 7/7/2017 2:24:51 PM EDT
[#7]
One of the flaws / problems in the initial assumption is that the return can be predicted.
There is no guarantee what the return will be, or if it will be a loss.
The expense ratio is a guaranteed cost, regardless of performance.
Link Posted: 7/8/2017 10:13:44 AM EDT
[#8]
You also need to look at the top holdings of the funds. Hypothetically if Fund A was doing better per your formula but had all energy stocks then going forward it may struggle more than Fund B loaded with FANG stocks. Also today there are huge movements based on political considerations.
Link Posted: 7/13/2017 10:58:08 PM EDT
[#9]
Something to think about: If there's a specific sector you're trying to buy, it pays to shop around. There are many, many companies running funds out there. Look around and you may find something with nearly identical holdings/performance much cheaper.
Link Posted: 7/16/2017 10:54:10 PM EDT
[#10]
To out perform the increased fees several mutual funds charge is harder the longer you leave your money in.  To out perform they must hold different assets than the benchmark they use and this opens you up to underperformance.  Some things that lead to underperformance:trading fees, portfolio churn and taxes, bets that are wrong and hidden fees that you don't realize.  I read a small book that discussed 50+ trading strategies that a private investor could do and then what the expected returns were over 20 years.  They were within 6% highest to lowest and the common types were within 2%.  Then when you factored in taxes it narrowed to almost no difference between any of them.  The moral of the book was focus on what you can control, fees, taxes, and pick a strategy and stick with it.
Link Posted: 7/16/2017 11:02:14 PM EDT
[#11]
Just a thought but a person interested in ETFs could hold the market and then make monthly buys that are sector based around a buy and hold strategy.  Picking undervalued sectors would be easier than undervalued but over performing stocks I would think
Link Posted: 7/16/2017 11:44:07 PM EDT
[#12]
Discussion ForumsJump to Quoted PostQuote History
Quoted:
To out perform the increased fees several mutual funds charge is harder the longer you leave your money in.  To out perform they must hold different assets than the benchmark they use and this opens you up to underperformance.  Some things that lead to underperformance:trading fees, portfolio churn and taxes, bets that are wrong and hidden fees that you don't realize.  I read a small book that discussed 50+ trading strategies that a private investor could do and then what the expected returns were over 20 years.  They were within 6% highest to lowest and the common types were within 2%.  Then when you factored in taxes it narrowed to almost no difference between any of them.  The moral of the book was focus on what you can control, fees, taxes, and pick a strategy and stick with it.
View Quote
Name of the book?
Link Posted: 8/8/2017 10:17:49 AM EDT
[#13]
A couple of my better investments have higher expense ratios than everything else in my portfolio. It is basically paying for performance.

I also have funds that would no longer be good investments if the expense ratios were higher.

I look at the year-on-year returns as part of the equation when determining how to weight expense ratios. Also, it is nice to be able to do historic comparisons side by side of a prospective fund v. funds I actually own. It helps clarify the impact of the expense ratio on the returns.

-shooter
Link Posted: 8/9/2017 9:19:00 PM EDT
[#15]
Who honestly looks at the performance of any fund before expenses are removed from said performance figures over any back tested time frame? I use the example of a fund with a 0.95% expense ratio. I caught some shit from some "financially savvy" patrons on this fund because of its 95 basis point expense ratio. The fund has outperformed the S&P 500 by 36% annually for the last 3 years, 24% annually for the last 5 years, and has 66% higher returns annually for the last 10 years. Is that a high fee? Absolutely, but the performance justifies the cost.
Close Join Our Mail List to Stay Up To Date! Win a FREE Membership!

Sign up for the ARFCOM weekly newsletter and be entered to win a free ARFCOM membership. One new winner* is announced every week!

You will receive an email every Friday morning featuring the latest chatter from the hottest topics, breaking news surrounding legislation, as well as exclusive deals only available to ARFCOM email subscribers.


By signing up you agree to our User Agreement. *Must have a registered ARFCOM account to win.
Top Top