Love and friendship might be free but everything else in life has a cost. And investment funds are no exception.
Investors want to watch their investments grow but do you know how much is being taken out of your money assets as charges? Charges will still be taken, even if the investments fall through the floor.
Do you understand what charges are being taken from your investment funds and how important they are to your overall returns?
If you are among the majority of investors who have little idea, then let Moneyexpert.com explain.
What are you investing in?
You can usually invest in three types of investment funds – unit trusts, investment trusts, and open-ended investment companies or Oeics. They all spread risks for investors by pooling the money and investing in a large number of holdings. By "diversifying", investors avoid the problem of putting all their eggs in one basket.
You get what you pay for
All three types of fund invariably have set-up charges. These can be as high as five to six per cent in the case of unit trusts and Oeics. This pays any commission due to a broker and the administration fees of setting up the investment. Investment trusts have initial charges too, either in the form of stockbroker fees or charges made by the trust’s manager.
But you can get a discount on the initial charge of unit trusts and Oeics by buying your funds through MoneyExpert.com, which doesn’t charge an initial commission. Click through on the Investment button to find out more.
Fund management companies also charge annual management fees. In the case of unit trusts and Oeics, this is usually around 1.5%, about a third of which goes to the broker and the rest to the fund manager.
Investment trusts are the least popular type of fund, even though their charges tend to be lower. Their annual management fee tends to be around 0.5%.
There are other charges too
What is less generally known is that the fees explained above are not the only charges to be made on funds.
Other expenses, such as administration, trustee and audit fees, are also charged to the fund every year. Fitzrovia is a company that analyses the so-called Total Expense Ratio of funds, which takes account of these charges. For an explanation, see the website www.fitzrovia.com. The TER is the best guide to the overall charges made on a fund and whey you understand that you understand how much your fund is costing you.
Charges are a drag
Fitzrovia points out that a £5,000 investment growing by 7% a year would be worth £19,348 after 20 years (with no annual expenses). If the TER of the fund was 1% then this would drag it down to £16,036. If the TER was as high as 3%, however, then the investment would be worth just £10,956, meaning £8,400 would be taken out in charges.
There’s more to performance than charges
You should not necessarily choose funds with the lowest charges. Charges are just one factor affecting the overall performance. How good your fund manager is at their job is also important, and if you choose a good fund manager then you could still end up with better performance than going with a cheaper fund.
There are other factors to think about. For example, ‘funds of funds’ invest in a portfolio of funds and as a result there can be two layers of charges. But they can be a great way to have a professional actively manage your investment for you with a tight control on risks. The benefit of this can outweigh the extra charges in the longer term.
To get an overall view of funds, take a look at the Lipper Leader fund ratings at www.leaders.lipperweb.com. These take account of TERs and other factors.
Choosing a fund
If you are unsure about where to invest, either seek help from an independent financial adviser or take a look at a panel of best performing funds by clicking through the Investment button on MoneyExpert.com. There are 1,000 funds to choose from, as well as the option to speak to an adviser.