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3 Financial Products to Consider Avoiding

September 5, 2016 by 33 Comments
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Before buying ANY financial product make sure that this product is right for you in terms of your unique, personal financial situation.  Financial products are tools and just like your projects around the house you should use the right tool for the job, not the tool that the financial rep wants to sell to you.

Here are three financial products that you should consider avoiding.

Equity-Indexed Annuities 

Equity-Indexed Annuities are an insurance-based product where the returns are tied to some portion of the performance of an underlying market index such as the S&P 500.  They are also called fixed-index insurance products and indexed annuities. Your gains are limited to a portion of what the index gains and there is generally some sort of minimum return to limit (or eliminate) your risk of loss.  As you can imagine these were pitched heavily to Baby Boomers and retirees after the last market downturn and are still being sold based upon fear today.

Two problems here are generally high internal expenses and surrender charges that keep you locked in the product for years. Worse yet, these internal expenses can be hard to isolate. If you decide to go ahead with the purchase of an Equity-Indexed Annuity be sure that you understand all of the details including the level of index participation, expenses, surrender charges, and the health of the underlying insurance company. Check out FINRA’s Investor Alert regarding Equity-Indexed Annuities for more cautionary information.

Proprietary Mutual Funds

It is not uncommon for registered reps and brokers to suggest mutual funds from the family run by their employer. In many cases they are incentivized or even required to do so. While some of these funds are perfectly fine, all too often in my experience they are not.  Whether via high fees and/or low performance these are often investments to be avoided.

A lawsuit against Ameriprise Financial brought by a group of participants in the company’s retirement plan alleged the company breached its Fiduciary duty by offering a number of the firm’s own funds in the plan and that these funds then paid fees back to Ameriprise and some of its subsidiaries as revenue sharing. The suit was ultimately settled.

JP Morgan also settled a suit by some retail investors over the bank steering clients into their more expensive proprietary funds over those of other families.

Load Mutual Funds

It is important that you understand the ABCs of mutual fund share classes.  In the commissioned/fee-based world reps often sell mutual funds that offer compensation to them and to their broker-dealers.  A shares charge an up-front commission plus a trailing fee (often a 12b-1) of somewhere in the neighborhood of 0.25% or more.

B shares charge no up-front commissions, but carry an additional back-end load as part of the ongoing expense ratio.  This can amount to an addition 0.75% or more added to the fund’s annual expenses.  In addition these shares also contain a surrender charge that typically starts at 5% if your sell the fund before the end of the surrender period.  B shares have been largely phased out by most fund providers.

C shares typically have a permanent 1% level load added to the fund’s expense ratio and carry a one year surrender period.

These sales loads ultimately reduce the amount of your investment and are an expensive form of advice. Nobody expects financial advisors or any other professional to provide financial advice for free. Unless the person to whom you are paying these pricey loads is providing extraordinary advice, this is a very expensive way to go.

The DOL fiduciary rules

The fiduciary rules introduced by the DOL (Department of Labor) in April of 2016 impose a far greater level  of disclosure on financial advisors. The rules require financial advisors to act as fiduciaries when providing advice to clients on their retirement accounts such as IRAs.

The fiduciary rules require advisors to have their client sign a disclosure document for many financial products with sales charges and trailing commissions if used in a retirement account. Load mutual funds and proprietary mutual funds will most likely require a BICE (Best Interest Contract Exemption) disclosure. Additionally Equity-Indexed Annuities were not exempted from these disclosures in the final draft of the rules as they had been in earlier drafts.

It will remain to be seen how the fiduciary rules will impact these three products, both within retirement accounts and overall. As an example, broker Edward Jones recently announced that mutual funds and ETFs will no longer be offered to clients in retirement accounts where commissions are charged.

Before making any financial or investment decision review your specific situation. Consult a fee-only financial advisor if you feel that you need financial advice.

Approaching retirement and want another opinion on where you stand? Not sure if you are invested properly for your situation? Check out my Financial Review/Second Opinion for Individuals service.

Please contact me with any thoughts or suggestions about anything you’ve read here at The Chicago Financial Planner. Don’t miss any future posts, please subscribe via email. Please check out the Hire Me tab to learn more about my freelance financial writing and financial consulting services.  

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Do I Own Too Many Mutual Funds?

February 25, 2015 by 10 Comments
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In one form or another I’ve been asked by several readers “… do I own too many mutual funds?”  In several cases the question was prompted by the number of mutual fund holdings in brokerage accounts with major brokerage firms including brokerage wrap accounts.  One reader cited an account with $1.5 million and 35 mutual funds.

So how many mutual funds are too many?  There is not a single right answer but let’s try to help you determine the best answer for your situation.

The 3 mutual fund portfolio 

I would contend that a portfolio consisting of three mutual funds or ETFs could be well-diversified.  For example a portfolio consisting of the Vanguard Total Stock Market Index (VTSMX), the Vanguard Total International Stock Index (VGTSX) and the Vanguard Total Bond Index (VBMFX) would provide an investor with exposure to the U.S. stock and bond markets as well as non-U.S. developed and emerging markets equities.

As index funds the expenses are low and each fund will stay true to its investment style.  This portfolio could be replicated with lower cost share classes at Vanguard or Fidelity if you meet the minimum investment levels.  A very similar portfolio could also be constructed with ETFs as well.

This isn’t to say that three index funds or ETFs is the right number.  There may be some additional asset classes that are appropriate for your situation and certainly well-chosen actively managed mutual funds can be a fit as well.

19 mutual funds and little diversification 

A number of years ago a client engaged my services to review their portfolio.  The client was certain that their portfolio was well-diversified as he held several individual stocks and 19 mutual funds.

After the review, I pointed out that there were several stocks that were among the top five holdings in all 19 funds and the level of stock overlap was quite heavy.  These 19 mutual funds all held similar stocks and had the same investment objective.  While this client held a number of different mutual funds he certainly was not diversified.  This one-time engagement ended just prior to the Dot Com market decline that began in 2000, assuming that his portfolio stayed as it was I suspect he suffered substantial losses during that market decline.

Adding more mutual funds doesn’t necessarily mean added diversification.

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How many mutual funds can you monitor? 

Can you effectively monitor 20, 30 or more mutual fund holdings?  Frankly this is a chore for financial professionals with all of the right tools.  As an individual investor is this something that you want to tackle?  Is this a good use of your time?  Will all of these extra funds add any value to your portfolio?

Can you realistically monitor 30 mutual funds?

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What is the motivation for your broker? 

If you are investing via a brokerage firm or any financial advisor who suggests what seems like an excessive number of mutual funds for your account you should ask them what is behind these recommendations.  Do they earn compensation via the mutual funds they suggest for your portfolio? Their firm might have a revenue-generating agreement with certain fund companies.  Additionally the rep might be required to use many of the proprietary mutual funds offered by his or her employer.

Circumstances will vary 

If you have an IRA, a taxable brokerage account and a 401(k) it’s easy to accumulate a sizable collection of mutual funds.  Add in additional accounts for your spouse and the number of mutual funds can get even larger.

The point here is to keep the number of funds reasonable and manageable.  Your choices in your employer’s retirement plan are beyond your control and you may not be able to sync them up with your core portfolio held outside of the plan.

Additionally this is a good reason to stay on top of old 401(k) plans and consolidate them into an IRA or a new employer’s plan when possible.

The Bottom Line 

Mutual funds remain the investment of choice for many investors.  It is possible to construct a diversified portfolio using just a few mutual funds or ETFs.

Holding too many mutual funds can make it difficult to monitor and evaluate your funds as well as your overall portfolio.

Approaching retirement and want another opinion on where you stand? Not sure if your investments are right for your situation? Concerned about stock market volatility? Check out my Financial Review/Second Opinion for Individuals service for detailed guidance and advice about your situation.

NEW SERVICE – Financial Coaching. Check out this new service to see if it’s right for you. Financial coaching focuses on providing education and mentoring in two areas: the financial transition to retirement or small business financial coaching.

FINANCIAL WRITING. Check out my freelance financial writing services including my ghostwriting services for financial advisors.

Please contact me with any thoughts or suggestions about anything you’ve read here at The Chicago Financial Planner. Don’t miss any future posts, please subscribe via email. Check out our resources page for links to some other great sites and some outstanding products that you might find useful.

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Target Date Funds: Does the Glide Path Matter?

February 6, 2014 by 4 Comments
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Most Target Date Funds are funds of the mutual funds of the fund family offering the TDF.  The pitch is to invest in the fund with a target date closest to your projected retirement date and “… we’ll do the rest….”  A key element of Target Date Funds is their Glide Path into retirement.  Stated another way the Glide Path is the gradual decline in the allocation to equities into and during retirement.  Should the fund’s Glide Path matter to you as an investor?

Glide PathTarget Date Funds have become a big part of the 401(k) landscape with many plans offering TDFs as an option for participants who don’t want to make their own investment choices.  Target Date Funds have also grown in popularity since the Pension Protection Act of 2006 included TDFs as a safe harbor option for plan sponsors to use for participants who do not make an investment election for their salary deferrals and/or any company match.

These funds are big business for the likes of Vanguard, Fidelity, and T. Rowe Price who control somewhere around 70% of the assets in these funds.  Major fund families such as Blackrock, JP Morgan Funds, and the American Funds also offer a full menu of these funds.  Ideally for the fund company you will leave you money in a TDF with them when you retire or leave your employer, either in the plan or via a rollover to an IRA.

What is a Glide Path?

The allocation of the fund to equities will gradually decrease over time.  For example Vanguard’s 2060 Target Date Fund had an equity allocation of almost 88% at the end of 2013.  By contrast the 2015 fund had an equity allocation of approximately 52%.

This gradual decrease continues through retirement for many TDF families including the “Big 3” until the equity allocation levels out conceivably until the shareholder’s death.  T. Rowe Price has traditionally had one of the longest Glide Paths with equities not leveling out until the investor is past 80.  The Fidelity and Vanguard funds level out earlier, though past age 65.

There are some TDF families where the glide path levels out at retirement and there is some debate in the industry whether “To” or “Through” retirement is the better strategy for a fund’s Glide Path.

Should you care about the Glide Path? 

The fund families offering Target Date Funds put a lot of research into their Glide Paths and make it a selling point for the funds.  The slope of the Glide Path influences the asset allocation throughout the target date years of an investor’s retirement accumulation years.  The real issue is whether the post-retirement Glide Path is right for you as an investor.

On the one hand if you might be inclined to use your Target Date Fund as an investment vehicle into retirement, as the mutual fund companies hope, then this is a critical issue for you.

On the other hand if you would be inclined to roll your 401(k) account over to either an IRA or a new employer’s retirement plan upon leaving your company then the Glide Path really doesn’t make a whole lot of difference to you as an investor in my opinion.

In either case investing in a Target Date Fund whether you are a 401(k) participant saving for retirement or a retiree is the ultimate “one size fits all” investment.  In the case of the Glide Path this is completely true.  If you feel that the Glide Path of a given Target Date Fund is in synch with your investment needs and risk tolerance into retirement then it might be the way to go for you.

Conversely many people have a number of investment accounts and vehicles as they head into retirement.  Besides their 401(k) there might be a spouse’s 401(k), other retirement accounts including IRAs, taxable investments, annuities, an interest in a business, real estate, and others.

In short, Target Date Funds are a growing part of the 401(k) landscape and I’m guessing a profitable way for mutual fund companies to gather assets.  They also represent a potentially sound alternative for investors looking for a professionally managed investment vehicle.  The Glide Path is a key element in the efforts to keep these investors in the Target Date Fund potentially for life.  Before going this route make sure you understand how the TDF invests, the length and slope of the Glide Path, the fund’s underlying expenses, and overall how the fund’s investments fit with everything else you may doing to plan for and manage a comfortable retirement.

Approaching retirement and want another opinion on where you stand? Not sure if your investments are right for your situation? Need help getting on track? Check out my Financial Review/Second Opinion for Individuals service for detailed guidance and advice about your situation.

NEW SERVICE – Financial Coaching. Check out this new service to see if its right for you. Financial coaching focuses on providing education and mentoring in two areas: the financial transition to retirement or small business financial coaching.

FINANCIAL WRITING. Check out my freelance financial writing services including my ghostwriting services for financial advisors.

Please contact me with any thoughts or suggestions about anything you’ve read here at The Chicago Financial Planner. Don’t miss any future posts, please subscribe via email. Check out our resources page for links to some other great sites and some outstanding products that you might find useful.

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Mutual Funds and The Rolling Stones: Time is on Their Side

October 11, 2013 by 2 Comments
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The Rolling Stones' "Tongue and Lip Desig...

One of the Rolling Stones’ greatest hits is called Time is on My Side.  Given the potential impact that the passage of time will have on the trailing five year returns of many mutual funds  by the end of 2013, the fund companies should be singing this song as well.

In a recent article on Market Watch Chuck Jaffe highlighted this quirk as cited by Morningstar.  According to Jaffe and Morningstar:

“For example, the average large-cap growth fund entered September with a five-year annualized return of 6.38%, according to Morningstar Inc. If the market simply stays flat and the average fund stands still to the end of the year, that five-year average will be 9.2% once September is wiped off the books, and will reach 15.16% by the end of the year.” 

As a case in point, the Vanguard Growth Index (VIGSX) fund’s five year annualized return as of June 30, 2013 was 7.15%.  At the end of the most recent quarter ending September 30, 2013, the fund’s five year annualized return stood at 11.73%.  This is a combination of fund’s 11.99% loss for the third quarter of 2008 dropping off of the five year record and the addition of the fund’s very solid gains of 8.48% for the most recent quarter.

If we carry this forward, at the end of the 2013 the loss of 23.81% for the fourth quarter of 2008 will fall off of the fund’s five year track record.  As Jaffe and Morningstar indicated even a flat return in the fourth quarter of 2013 will result in a significant jump in the fund’s trailing five year track record at the end of 2013, erasing a large portion of the financial crisis from the track record of this and many funds.

A marketing boon for mutual fund companies 

Just like the folks who market breakfast sausage, cars, or life insurance, mutual fund marketers are paid to accentuate the positive aspects of investing in their funds.  The mere passage of time will result in a marketing boon for these folks.

Be leery of the facts

If a mutual fund company touts the fund’s sheer numerical return, this is pretty meaningless.  Mutual fund returns should be viewed in the context of the fund’s peer group.  For example an average annual five year return of 10% might sound great, but not if 90% of the other funds in this same investment category (peer group) did better than that.

Further look at the fund’s risk-adjusted returns.  Did the fund take inordinate risks to achieve their returns, or did they do this with less risk than the average fund?

The past may not be a good indicator of the future

Past returns are not an indication of future results is a standard disclaimer in our industry.  The past is the past.  Many things can change.  Perhaps the fund manager who racked up this stellar track record has moved on.  In the case of small and mid cap funds, gathering too much money to effectively manage can be an issue and is often the result of outstanding performance.  Money has a habit of chasing returns.

Don’t be fooled by the hype that will surely surround these returns on steroids.  Always analyze any mutual fund’s results in terms of the potential implications of this performance and structure on future relative performance.

Please contact me with any thoughts or suggestions about anything you’ve read here at The Chicago Financial Planner. Don’t miss any future posts, please subscribe via email. Please check out the Hire Me tab to learn more about my freelance financial writing and financial consulting services.  

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Investing Lessons from Vanguard’s Gus Sauter

September 25, 2013 by 6 Comments
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I had the pleasure of attending Vanguard’s Investment Symposium here in Chicago recently.  The entire session was excellent and very well done.  The highlight for me was the opportunity to hear Gus Sauter, Vanguard’s recently retired Chief Investment Officer, speak.  Gus closed his presentation with several investing lessons that I want to share with you.

Equity volatility is a fact of life 

We experienced two sharp, drastic stock market downturns in the first decade of this century:  2000-2002 and 2008-2009.  In addition we had the Flash Crash in 2010 and a sharp downturn in 2011 following the fiscal wrangling in Washington.  Whether event driven or driven by other factors; volatility in the stock market is a fact of investing life.  I suggest that you embrace this volatility or at least factor it into your financial planning assumptions.

Sauter’s suggestion:  Ignore emotional reactions to market volatility and stay the course. 

Despite lower expected returns, bonds still play a significant role 

Coming out of 2008 many very solid bond funds suffered large losses that were based almost entirely on investor’s fears of anything that wasn’t a Treasury.  I was able to earn some very solid returns for my clients post-2008 via the use of selected bond funds.  The poor performance of bond funds YTD in 2013 is likely a preview of the low upside many of see in bond funds going forward, especially when the predictions of higher interest rates actually comes to fruition.

According to Mr. Sauter bonds still have a role in most portfolios as a diversifying element.  Bonds have historically done well when stocks haven’t.  Going forward bonds will likely revert to their more traditional role of reducing investment volatility.

Sauter’s suggestion:  Maintain a balanced portfolio.

Manager selection is difficult, past performance is not a predictor of future returns 

Selecting an active mutual fund manager who is likely to outperform their benchmark on a consistent basis is difficult.  Sauter presented a slide that showed that mutual funds underperformed their benchmark by an average of 120 basis points in the 36 months following their receiving a 5 star rating from Morningstar.  This isn’t a knock on Morningstar as they would be the first to admit that their star system is not a predictive ranking but rather one that rewards funds based upon past performance.

Sauter’s suggestion:  Focus on low cost investing. 

Market timing is difficult 

Sauter cited a USA today graph that showed that over a six month period ending in June of this year buy and hold investors achieved returns that were almost 75% higher than a group of investors with a portfolio turnover rate ranging from 51% – 75% during the same period.  This during a period of strong stock market returns.

Sauter’s suggestion:  Establish a strategic asset allocation and think long-term.

Investing fads come and go.  A long-term investing strategy that is tied to a sound financial plan is timeless.

Please contact me with any thoughts or suggestions about anything you’ve read here at The Chicago Financial Planner. Don’t miss any future posts, please subscribe via email. Please check out the Hire Me tab to learn more about my freelance financial writing and financial consulting services. 

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Target Date Funds: 6 Considerations Before Investing

April 24, 2013 by 6 Comments
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Target Date Funds are a staple of many 401(k) plans. Most Target Date Funds are funds of mutual funds. The three largest firms in the TDF space are Fidelity, T. Rowe Price, and Vanguard with a combined market share of about 80 percent. All three firms use only their own funds as the underlying investments in their target-date fund offerings. Some other firms offer other formats, such as funds of exchange-traded funds, but the fund of mutual funds is still the most common structure.

Target Date Funds Investing

Here are 6 considerations to think about when deciding whether to use the Target Date Fund option in your company’s retirement savings plan:

Is the Glide Path really that important?

Much has been made of whether the Glide Path (a leveling of the fund’s equity allocation into retirement) should take investors to or through retirement. Target Date Fund providers spend a lot of time devising and administering the Glide Path that their funds use into and through your retirement years.   Before making too much of this, however, the key question is what will you do with your retirement plan dollars once you retire? TDF providers hope that you take the money invested in their Target Date Funds and roll these dollars into an IRA with them, maintaining your Target Date Fund position.  There are big dollars at stake for them.  In reality you might take your money out of the plan and do something else with it, including consolidating these funds with other retirement assets already in an IRA perhaps at another custodian.

How does the allocation of the Target Date Fund fit with your other investments? 

Many 401(k) participants invest their retirement dollars in a vacuum—meaning they don’t take their investments outside of the plan into consideration when making their investment choices. This is fine for younger workers just starting out.  Their 401(k) investment might be their only investment and the instant diversification of a Target Date Fund is fine here.

For those with other outside investments such as taxable accounts, a spouse’s retirement plan, and perhaps an IRA rolled over from old 401(k)s, this is a big mistake. Given that TDFs are funds of funds you might become over or under allocated in one or more areas and not know it as your account grows. Factoring the Target Date Fund allocation into your overall portfolio is critical. 

Is the Target Date Fund closest to your projected retirement date the right choice for you?

For example, a 2020 Target Date Fund is conceivably meant for someone who is 58 and retiring in seven years. If you were to take three 58-year-olds and look at their respective financial situations and tolerance for risk, it is likely that they are all fairly different. Plan providers need to do a better job of communicating to plan participants that the fund with the date closest to their projected retirement date may not be the right fund for their needs. Look at your own unique situation and pick the TDF that best fits your needs. 

Understand the underlying expenses

In some cases, the overall expense ratio may be a weighted average of the underlying funds. Others may also tack on a management fee to cover the costs of managing the fund. As with any investment, understand what you are being charged and what you are getting for your money. 

Target Date Funds don’t equate to low risk

Many participants are under the mistaken impression that investing in a Target Date Fund is a low risk proposition. As we saw in 2008, nothing could be further from the truth. Many investors in 2010 funds saw losses in excess of 20 percent. A recent review of more than 40 Target Date Fund families showed the share of stocks in the funds designed for those retiring in the current year ranged from about 25 percent to about 75 percent. As with any mutual fund, look under the hood and understand the level of risk that you will be assuming.

Investing in Target Date Funds doesn’t guarantee retirement success 

Contrary to the belief of some, investing in a Target Date Fund doesn’t guarantee that you will have enough saved at retirement.  Building a sufficient retirement nest egg is all about how much you save and how you invest those savings.  Target Date Funds may or may not be the best investment vehicle for your needs.

Target Date Funds can be a good vehicle for 401(k) participants and others who are not comfortable allocating their own investments. Unfortunately, TDFs are not a set it and forget it proposition. Investing in Target Date Funds requires periodic review to ensure that the fund you have chosen is still right for your situation. Retirement plan providers and sponsors also need to do a better job of communicating the benefits, pitfalls, and potential uses of these funds to plan participants.

Please feel free to contact me with questions about 401(k) investment options or about your overall financial and retirement planning needs.  

For you do-it-yourselfers, check out Morningstar.com to analyze your Target Date Fund and all 401(k) investment options and to get a free trial for their premium services.  Please check out our Resources page for links to some additional tools and services that might be beneficial to you.  

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Target Date Funds Don’t Guarantee Retirement Success

January 23, 2013 by 9 Comments
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A recent article in the Wall Street Journal professional edition was entitled “Target” Funds Still Missing the Mark. The premise of the article was that Target Date Funds were falling short in their investment returns and were doing nothing to help 401(k) participants regain some of the ground they had lost during the 2008-09 stock market decline.  Another Wall Street Journal Article in early 2011 cited an Alliance Bernstein survey of 1,000 workers which over half “mistakenly believed that using target-date funds would guarantee that their retirement income needs will be met.”

As both a financial planner working with individual investors and as an advisor to several 401(k) plan sponsors I find this survey result appalling and disturbing.  Moreover, it reinforces my concerns that 401(k) participants as well as some plan sponsors really don’t understand the pros and cons of Target Date Funds.

The fund companies offering them would be the first to tell you that there is nothing guaranteed about TDFs. There is a growing movement within the retirement plan space to add guaranteed-income products to Target Date Funds, but this won’t guarantee retirement success either.

Is a Target Date Fund the right choice for you?

The key to determining if a Target Date Fund is the right choice for your retirement savings is to understand them.  If you are considering a TDF for all or part of your 401(k) account or as an investment in general, here are two things to consider:

  • Target Date Funds from various providers with the same target date may vary widely as to their asset allocation and investment approach. There is no requirement that a TDF with a given target date have any particular allocation to equities, fixed income, etc.  The fund with the target date closest to your intended retirement might not be the best fund for your needs. As with any investment, you need to look at the fund’s investment allocation in light of your financial goals, risk tolerance, etc. You should also look at the fund as a part of your overall portfolio if you have investments outside of your retirement plan, such as IRAs, taxable accounts, a spouse’s retirement plan, and the like.
  • Many Target Date Funds are funds of the mutual fund company’s funds. This is the case for Vanguard, Fidelity, and T. Rowe Price, which collectively have about 80 percent of the TDF assets. This is not good or bad, but you should take a look at the funds that make up the TDF that you are considering. In some cases, I’ve seen fund companies use funds other than what I consider to be their top funds; perhaps they are looking to add assets to these funds.

Target Date Funds gather a huge amount of assets for the fund companies offering them, both as a component in many 401(k) plans and as a rollover vehicle when participants leave their employer.  Remember your investment choices should be all about you and what’s right for your situation.

Most of all, remember that the biggest single determinant in retirement success is the amount saved. If you start early, save as much as you can, have a financial plan in place, and make good investment choices, you will give yourself a good shot at accumulating enough to fund your retirement.  There are no guarantees of course.

Please feel free to contact me with questions about 401(k) plan and about your retirement planning needs.

Check out our Resources page for links to a variety of tools and services that might be beneficial to you.

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Mutual Fund Expenses – Where Real Holiday Savings Can be Found

November 26, 2012 by 4 Comments
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As I write this its Cyber Monday, the biggest online shopping day of the year.  Where to save a few dollars on this item or that has been the focus of many news stories and discussion.  While we all like to save money on the things we buy, these savings are “chump change” compared with the savings opportunities available by reducing your expenses on the mutual fund and ETFs in which you invest.  Here are 5 tips for reducing your investing costs for mutual funds and ETFs to help grow your investments for retirement, college savings, and other goals.

Index Funds are Not Created Equal

As an example the Dreyfus Mid Cap Index Fund (ticker PESPX) has an expense ratio of 0.50% which is pricey for a core index fund of this type.  The Investor Share Class of the Vanguard Mid Cap Index Fund (VIMSX) carries an expense ratio of 0.24% and the SPDR S&P Midcap 400 ETF (MDY) has an expense ratio of 0.25%.  An investment of $10,000 in each of these funds made on May 31, 1998 and held until October 31, 2012 would have grown to:

Dreyfus Mid Cap Index

$30,743

SPDR Midcap

$31,643

Vanguard Mid Cap Index

$31,770

The above information is via Morningstar and is based upon the earliest common inception date of the three funds and also assumes reinvestment of dividends and distributions.  Note that an investment in one of the lower cost share classes of the Vanguard fund would yield even better results.

ETF Price Wars are a Good Thing

There is a price war happening among several providers initiated by Schwab to offer the lowest cost ETF.  Vanguard has jumped on the bandwagon by changing the index provider on many of its funds and ETFs; Blackrock’s ishares unit has also joined in.  While I likely would not suggest switching from an already low cost index ETF product because it is not the absolute lowest in cost, I would suggest taking a look at the offerings of the “warring” factions.  You should also take any transaction fees into account as well.  Schwab and Vanguard allow transaction free trading of their own ETFs, TD and Fidelity offer a menu of transaction free ETFs as well.

Your Financial Advisor May be able to Save You Money

In many cases I am able to invest my client’s money in less expensive share classes of a given mutual fund than they might be able to purchase on their own.  As an example PIMco Commodity Real Return as a number of share classes as do most of the PIMco Funds.  I am able to invest client dollars in the Institutional Share Class (PCRIX) with its 0.74% expense ratio and typical $1 million minimum.  This compares to the no-load D shares (PCRDX) with an expense ratio of 1.19% and a $1,000 minimum initial investment.  Often the savings in expense ratios that I can provide to my clients can go a long way in covering a portion of my professional fees.

Ensure that Your Stock Broker or Registered Rep isn’t costing you Money

The flip side of the last point is to make sure that you are not paying more in mutual fund fees just so that your broker or registered rep can make additional fees and commissions.  Case in point is if your money is invested in a proprietary mutual fund offered by the rep’s employer.  While some of these proprietary funds can be decent, all too often they are under performers that are laden with fees and charges to generate revenue for the broker and their firm.

Read your 401(k) Plan Fee Disclosures

Some plans sold by commissioned reps and producing TPAs (Third-Party Administrators) may contain funds that are not very low cost.  Case in point might be a plan with an American Funds fund in the R1, R2, or R3 share classes.  This might also be the case with some Fidelity shares classes (typically the Advisor share class), as well as with some T. Rowe Price funds (the Advisor or the R share classes).  These shares exist typically to compensate a producer.  If you see these or similar share classes for other fund families in your plan it would behoove you to ask the person who administers your plan if it might be possible to move the plan into lower cost funds or fund share classes.

We all like to find a bargain when doing our holiday shopping.  If a fraction of the time and effort that people spend on this activity went into analyzing their investment portfolios, the potential cost savings alone would dwarf anything that you might realize from finding a couple of deals this holiday season.  These savings are not just one-time in nature, but they “keep on giving.”

Check out Morningstar to review the expenses for all of  your mutual funds and ETFs and to get a free trial for their premium services.

Please feel free to contact me with questions about your investments.

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Does it Matter Who’s Managing Your Mutual Fund?

November 5, 2012 by Leave a Comment
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One of the analytical tools that I use in my practice is the fi360 Toolkit.  They rank mutual funds and ETFs on 11 criteria, one of which is the tenure of the fund manager.  In order to receive a top ranking here, the manager must have tenure of at least 2 years.  We generally use 3 years in our Investment Policy Statements.

Does this mean that you should dump a fund if you learn that the manager is leaving?  Not necessarily.

The Vanguard Example

As an example, for many years Gus Sauter was responsible for the management of most of Vanguard’s index funds.  Several years ago he stepped out of the day-to-day management of the funds into the role of the firm’s Chief Investment Officer.  In my opinion, Vanguard’s index products have not missed a beat.

Mr. Sauter is retiring at year-end after the transition to a new index provider for a number of their funds.  On both counts I suspect Vanguard will again not miss a beat.  Why?  People are a critical part of the investment management process.  But so is the process.  Based upon my experience Vanguard has both in place.

Fund manager changes – done well and not so well

In another example, I have used Columbia Acorn International Z fund for a number of years in some client portfolios.  It is an actively managed small/mid cap foreign equity fund.  The fund had been managed by legendary manager Ralph Wanger, he was then joined by his wife (an outstanding fund manager herself) Leah Zell; Zell then was the sole lead manager until May of 2003 after Wanger’s departure.  She was succeeded at the fund by her two top underlings.  I had notified my clients of the change and suggested a wait and see approach.  This was a wise move as the fund has continued to perform well and also to perform within my expectations for the fund.  Again an example of having solid people in place (including depth) and having a solid investment process in place.

Perhaps the ultimate example of the other side of this coin is the soon to be shuttered Janus Worldwide fund.  Janus was one of the hottest mutual fund shops of the 1990s Dot Com boom in the markets.  The fund was very ably managed by Helen Young Hayes and at its peak had over $44 billion in assets.  The fund was a top performer until the bear market of 2000-02 when the fund’s performance really sagged.  Hayes left the fund in 2003; there have been several managers since, in many ways mirroring the revolving door in the executive suite (five CEOs since 2003).  None of these mangers subsequent to Hayes have been able to duplicate the fund’s past performance, the fund ranks in the bottom 3% of its peer group for the past 10 years.  The fund is scheduled to be merged with another Janus fund shortly.

It does matter who is managing your mutual fund, but beyond that it is important that the fund have a strong investment process in place.  While the fund’s management might seem to be more important for an actively managed fund, in reality proper management of a passive index fund is just as important.

Please feel free to contact me for a review of your investments. 

Check out morningstar.com to analyze your mutual funds and all of your investments.  Get a free trial for their premium services.

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Mutual Funds – Are “Family Values” Important?

October 22, 2012 by 2 Comments
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My Investments from the last year or so

Over the years I’ve been asked whether there is a mutual fund family (or families) that I prefer.  My answer is generally along the lines that I choose mutual funds and ETFs based on screening and their fit in a particular client portfolio.  This is absolutely true but there are families that I do tend to use more than others.

For example, for the individual client assets which I custody at Schwab (which is the bulk of them):

  • Vanguard mutual funds and ETFs comprise about 22% of these assets.
  • PIMco mutual funds, ETFs, and closed end funds make up just over 10%.

In addition to Schwab I have individual clients with a smattering of assets at other custodians, including Vanguard.

A significant portion of my practice involves providing advice to several 401(k) plans, as well as a couple good-sized pension plans and foundations.  Both Vanguard and PIMco are well-represented, along with Fidelity.  In the case of Fidelity two of the larger 401(k) plans are administered by Fidelity and we do have a number of Fidelity funds in both plans (along with a number of non-Fidelity funds).

In the case of Vanguard I am drawn to their low cost index products, I rarely use their actively managed funds.  In the case of PIMco the bulk of the assets are in three of their funds. Their fixed income expertise and their research orientation are impressive.

A Sample 401(k) Menu

Beyond this a look at the funds and ETFs that I use would reveal no particular loyalty to any family or fund provider.  I am typically looking for something in a particular fund in a given asset class and I don’t really care which fund family they are affiliated with, unless I uncover some negative aspect about the fund company.  As an example, here are the fund families represented in one of the 401(k) plans for which I serve as advisor:

  • Vanguard (4 index funds plus their Target Date Funds)
  • American Funds
  • American Beacon
  • PRIMECAP
  • Artisan
  • BMO Funds
  • Northern Funds
  • Dodge and Cox
  • Oakmark

Red Flags to Look For

While I am fund family agnostic, there are however, some fund family red flags that might give you pause when considering an investment.  Here are three:

  • A sense of general turmoil.  Janus is a prime example of firm where this concern is prevalent to me.  The company is on its 5th CEO since 2003 and they have experienced a noticeable amount of manger turnover.
  • Refusal to close popular funds.  One of the things that I really like about Artisan (a relatively small fund firm in Milwaukee) is that they routinely close funds when they take on too much money for the managers to effectively manage.  Perhaps the “poster child” here is Sequoia who had reopened their lone fund in 2008 after being closed to new investment for over 20 years, feeling comfortable for the first time that they could effectively manage new money.  They just re-closed the fund once again in the past year.  It seems to be a rule that money follows performance.  A fund that has a couple of really good years will attract waves of new investors.  In my opinion it is irresponsible for the fund company to keep the fund open if they don’t feel they can effectively manage these inflows.  In my opinion this is the definition of greed overruling shareholder interests.
  • A commissioned or fee-based rep who pushes a particular fund family, especially if that family is also his/her employer.  A recent example involves a lawsuit against JP Morgan Chase alleging that their reps pushed the company’s proprietary funds over those from other families.  I suggest asking many questions of this rep if you like them, or better terminating the meeting on the spot if you are a prospective client.

As an individual investor I would caution you against loyalty to any fund family.  Rather start out with the overall portfolio allocation that you are shooting for and then pick the best funds/ETFs to fill those “buckets.”  Ideally this is an outgrowth of your financial plan.  As a practical matter you might be unable to buy some funds due to investment minimums and other factors.  However there are many custodians that offer access to a wide array of funds across many families.  I would generally suggest going that route vs. limiting yourself to a situation where you only have access to a single family or a very small number of fund families.

As is always the case, nothing published on this blog constitutes investment advice nor should you take it as such.  Please see the Disclaimer page for more.

Please feel free to contact me with your questions, comments or suggestions regarding the site.

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