Mutual fund shareholders are paying their managers less today in fees than they were 20 years ago or even last year. The increasing demand for low-cost funds coupled with increasing competition in the $12 trillion mutual fund industry is good news for shareholders for the foreseeable future.
According to data from the Investment Company Institute, over the past two decades, on an asset-weighted basis, average expenses paid by mutual fund investors have fallen significantly.
For example: In 1990, investors on average paid 99 basis points- or 99 cents-for every $100 in assets invested in equity funds. Fast forward to 2011 and that number has fallen to 79 basis points for equity fund investors, a decline of 20%. Bond fund investors have seen a bigger discount during the same period from 88 basis points to 62 basis points, or 30%.
So what's spurring the big drop off in pricing?
ICI's data reveals that expense ratios, which include fixed costs such as transfer agency fees, accounting and audit fees, often vary inversely with fund assets so as fund assets rise, these fixed costs become smaller relative to those assets and vice versa. Also, the shift by investors toward no-load funds, particularly institutional no-load share classes, which have lower-than-average expense ratios, have also driven down fees.
In addition, mutual fund expenses have been pushed down by economies of scale and competition within existing and new mutual fund sponsors even as the number of mutual fund users has skyrocketed.
According to the ICI, the number of households owning mutual funds has more than doubled since 1990, going from 23.4 million in 1990 to 52.3 million in 2011. During the same period, the number of shareholder accounts rose from 61.9 million to more than 275 million.
Finally, ICI's research reveals that mutual fund shareholders are looking for funds on the cheap. The simple average expense ratio of equity funds was 143 basis points in 2011 but that's not what shareholders paid for these funds. Rather, the average expense ratio that equity fund shareholders actually paid was considerably lower: just 79 basis points. Equity managers should also note that as of year-end 2011, equity funds with expense ratios in the lowest quartile managed 72% of equity funds' total net assets, while the remaining 75 percent of equity funds held only 28% of total net assets, according to ICI.
In a separate research piece, Russel Kinnel, Morningstar's director of mutual fund research, wrote that on an asset-weighted basis, the typical investor last year paid 75 bps in expenses compared with 77 bps in 2010 and 93 bps in 1990. Expense ratios dropped in all the major asset classes except for alternatives. "Expense ratios have come down most years of the past decade--the average investor is paying 19 basis points less than 10 years ago," he wrote.
"Costs have come down because of appreciation, inflows, and a shift to lower-cost funds. Yes, there have been some fee cuts over the years--most notably Vanguard's lowered investment minimums for Admiral share classes. But it's the choices made by investors that have had the greatest impact. Investors have generally invested new money in lower-cost funds within a category. In addition, the growing popularity of bond funds has meant that money is flowing toward the lowest-fee asset class, thus lowering the overall rate."
In his research, Kinnel said his firm grouped funds into quintiles based on their fee level relative to their category peer group and, as a result, the cheapest quintile funds drew in $122 billion dollars in net inflows in 2011. All other fund groups suffered net redemptions. "The most expensive quintile with an average expense ratio of 2.12% saw $13 billion walk out the door. The data would be even more dramatic if exchange-traded funds were included," according to Kinnel.
Kinnel also noted that the drop in fees for domestic equity funds was surprising given that the group was overall bleeding assets. Fees fell to 74 bps in 2011 from 78 bps in 2010. International-equity funds also saw a big expense ratio drop of four basis points from 97 bps to 93 bps during the same period. However, the typical investor paid an additional four basis points for his alternatives fund from 129 bps to 133 bps.
Fee discounts among fund firms have continued in the first half of 2012. Last month, the RiverFront Global Allocation Series of mutual funds reduced the fees for three of its funds including the RiverFront Moderate Growth and Income Fund, RiverFront Global Allocation Fund and RiverFront Dynamic Equity Income Fund by 15 bps and expenses are now capped at 90 bps.
In June, Nationwide Funds Group said that it will eliminate all redemption fees on its retail and retirement plan mutual funds, effective Aug. 1 in an effort to help drive asset growth for the company and financial advisors.
According to Michael Spangler, president of Nationwide Funds Group, redemption fees were originally imposed to deter market timing and late trading in mutual funds. However, he said that the firm "has made a number of advances in an effort to detect and reduce excessive trading, short-term trading or market timing activity" leading to the elimination of redemption fees in Nationwide funds.
And earlier this month, in a nod to the competitive pricing pressure roiling the financial services industry, Advisor Group, one of the largest independent broker-dealer networks in the nation, has eliminated, or drastically reduced, the mutual fund fees it was charging to clients of its financial advisors.
Advisor Group announced that, effective August 1, clients would no longer pay mutual fund fees associated with exchanges, systematic transactions, account inactivity and low balances. Other fees involving mutual fund-only IRAs also were reduced.