The Wall Street Journal just had an interesting piece on The Hidden Costs Of Mutual Funds.   For most long term investors that do not dollar cost average, an ETF approach may be a better alternative than the mutual funds, which come with significant management fees.  As an example, consider the Fidelity Select Transportation mutual fund, which according to the Fidelity webpage, carries an expense ratio of 1.03%.  The iShares transportation ETF, on the other hand, carries an expense ratio of less than half that, or .48%.


Back to the hidden costs article.  The WSJ notes that the mutual fund management fees are just part of the espenses:

In selecting mutual funds, most investors know to check the expense ratio, the standard measure of how costly a fund is to own. U.S.-stock funds pay an average of 1.31% of assets each year to the portfolio manager and for other operating expenses, according to Morningstar Inc.

But that’s not the real bottom line. There are other costs, not reported in the expense ratio, related to the buying and selling of securities in the portfolio, and those expenses can make a fund two or three times as costly as advertised.

“These trading and transaction costs are very real,” says Stephen Horan, head of professional education content and private wealth at CFA Institute, a nonprofit association of investment professionals. “While it’s very important to look at that expense ratio, it’s just not going to capture” all of the costs, Mr. Horan says…

A study updated last year of thousands of U.S.-stock funds put the average trading costs at 1.44% of total assets, with an average of 0.14% in the bottom quintile and 2.96% in the top.

Adding a financial advisor into the mix could eat even more into the returns of your funds.  A typical financial advisor would pass along the management and trading fees already associated with the funds.  But they would also add their own management fees to the mix, justified by their “expertise” in picking the funds on your behalf.

If all of those fees are a bit shocking, and you want to learn more about the lower cost ETF approach to investing, you should check out one of these two books:

The ETF Book is a great start for those wanting more in depth information on ETF’s and a more hands off approach to buying into the low cost ETF craze.
The ETF Book: All You Need to Know About Exchange-Traded Funds
The ETF Book: All You Need to Know About Exchange-Traded Funds by Richard A. Ferri

If you are looking to supercharge your ETF investing experience, then consider Trading ETF’s.  It adds more in depth information on ETF trend analysis, entry and exit timing criteria, and even sections on balanced portfolios – mixing a handful of short ETF’s with long ETF’s.

Trading ETFs: Gaining an Edge with Technical Analysis
Trading ETFs: Gaining an Edge with Technical Analysis by Deron Wagner

Also check out: