What you need to know about MERs and performance

If a high-fee mutual fund performs well, what’s the problem?

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From the January 2015 issue of the magazine.

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mutualfunds_484Q: MoneySense is always promoting ETFs and other funds with low management expense ratios (MERs). But I recently purchased some mutual funds with 2.5% MERs that I think are worth the high fees. The 10-year returns average out at 8% and better. Isn’t this still a very good investment then?

A: Your new mutual fund may very well be a good investment. But it is difficult to tell without looking at the “relative return.” That is, how much better or worse your money would have done if it had been invested somewhere else, say in a Canadian equity ETF. You can go to morningstar.ca to compare your specific fund’s performance against its benchmark index. Sure, there are mutual funds with high MERs that do outperform the index, but they are the exception. The research firm Lipper found that from 1984 to 2009, the Vanguard 500 Index Fund earned an annualized return of 9.2%, outperforming two-thirds of U.S. equity mutual funds that existed during those 25 years. Data from S&P shows that Canadian funds fared even worse. The bigger the MER, the harder it is for funds to beat the index. And keep in mind that past performance is not a predictor of the future. You need to keep your eye on relative returns over the long haul.

Bruce Sellery is a frequent guest on financial television shows and author of Moolala. Do you have your own personal finance question? Write to us at ask@moneysense.ca

 

2 comments on “What you need to know about MERs and performance

  1. Why do we always focus on the upside with respect to a fund beating a index. Psychologically, we are far more concerned at how far our investment might down in value than up. That being said …. with a ETF when the market goes into a dive you just cant throw out the worst performing stocks. When the crash in 2008 happened, there was a huge number of funds that did a whole lot better than the index on the downside and by a wide margin. If the index falls 30 % it takes a 43% return to get back to even . As the article implies …. I would take a fund that doesnt quite beat an index with a higher MER as apposed to a ETF that could drop considerably more and take considerably longer to recoup

    Reply

    • Psychologically, you may have a point, but then we know that investor psychology often works against their best interests. Decisions made out of fear are usually not the best decisions.

      On the other hand, the data still clearly indicates that even accounting for down markets and looking at long-term returns, investors are better off purchasing low-cost index products than high-priced mutual funds. You’re making the mistake of focusing on a single year and avoiding the pain of short-term loss. Investors can’t and shouldn’t look at short-term, single year results. If they have short-term cash flow needs, then that money should be in cash, not invested in the markets.

      After all, is the point of investing to feel good, or to earn the best return on your investment? If it’s more of the latter, then you have to be willing to stomach some discomfort and go with the data.

      Reply

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