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expense ratio costs included in "total return"?
Old 03-21-2009, 02:00 PM   #1
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expense ratio costs included in "total return"?

Hi all,

This may be a very basic question, but it's important.

I use M* when I evaluate mutual funds. I always look at the expense ratios and of course the returns. When reading a little bit about how M* reports the returns, I found this:

"The total returns account for management, administrative, and other costs automatically deducted from fund assets."

Does this mean the returns listed by M* already include the costs indicated by the expense ratio? I always thought the expense ratio was extra...and thus if 2 funds in the same category had nearly identical returns over the years, I would choose the one with the lower expense ratio. However, if the exp. ratio is already accounted for in the returns, then shouldn't one just look at the returns This is contrary to everything I have ever read, so I'm thinking I'm really misunderstanding what I quoted above. Can someone please help clarify? Please be kind and remember no question is a stupid question.
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Old 03-21-2009, 02:19 PM   #2
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mutual fund and ETF annual expense ratios are already accounted for in the total return.

Front-end loads are usually not included in the total return unless explicitly stated.

As for just looking at the returns, I don't think you can just look at the returns. Two other very important criteria need to be looked at as well:
1. Return after taxes.
2. Risk level.

A good example is comparing Dodge&Cox International (DODFX) to a typical international index fund. Since DODFX contains a healthy slug of emerging markets, you do not want to compare to an index fund that does not have a healthy slug of emergening markets.
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Old 03-21-2009, 02:30 PM   #3
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M* total return is after annual recurring expenses and includes capital gains and dividends. It does not factor in the loads.
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Old 03-21-2009, 02:37 PM   #4
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Hi all,

This may be a very basic question, but it's important.......

........Please be kind and remember no question is a stupid question.[/FONT]
Don't be embarrassed, you are asking basic questions that many of us don't know or can't remember the answers to, so we need to have the basics repeated every now and again.
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Old 03-21-2009, 03:01 PM   #5
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Quote:
Originally Posted by LOL! View Post

Front-end loads are usually not included in the total return unless explicitly stated.
Are back-end loads included in the total return?

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Originally Posted by LOL! View Post
As for just looking at the returns, I don't think you can just look at the returns. Two other very important criteria need to be looked at as well:
1. Return after taxes.
2. Risk level.

A good example is comparing Dodge&Cox International (DODFX) to a typical international index fund. Since DODFX contains a healthy slug of emerging markets, you do not want to compare to an index fund that does not have a healthy slug of emergening markets.
Excellent points. Why is it the more you know, the more you realize you don't know? Oh well, that's life!

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Originally Posted by ziggy29 View Post
M* total return is after annual recurring expenses and includes capital gains and dividends. It does not factor in the loads.
So, same question to you - does it include back-end loads? (No, not considering purchasing load funds, but my brother did, and I'm trying to learn more to help him. Actually we are learning a lot together by going through this process!)
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Old 03-21-2009, 03:03 PM   #6
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Don't be embarrassed, you are asking basic questions that many of us don't know or can't remember the answers to, so we need to have the basics repeated every now and again.
Thanks Alan!
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Old 03-21-2009, 03:11 PM   #7
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mutual fund and ETF annual expense ratios are already accounted for in the total return.
This does make me wonder, though - why DO we all talk about how important expense ratios are, if the bottom line (apart from the other factors - taxes, etc.) is that the M* total returns already account for them?
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Old 03-21-2009, 03:38 PM   #8
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This does make me wonder, though - why DO we all talk about how important expense ratios are, if the bottom line (apart from the other factors - taxes, etc.) is that the M* total returns already account for them?
This article does a good job of explaining an index, and why some funds are better than others. Funds that have lower expenses let you keep more of the return.
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Old 03-21-2009, 04:22 PM   #9
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Back end loads are not included either unless explicitly stated.
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Old 03-21-2009, 05:32 PM   #10
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This article does a good job of explaining an index, and why some funds are better than others. Funds that have lower expenses let you keep more of the return.
Frightening to think some companies charge north of 1% for an S&P 500 index. More frightening is that someone would PAY north of 1% for it.

Having said that, just over a decade ago, I was naive enough to pay a load for a fund. Admittedly it was "proprietary", but I'm sure I could have found a fund which would mimic the fund for no load.

As long as I learn from mistakes, I guess it's OK.
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Old 03-21-2009, 05:33 PM   #11
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This does make me wonder, though - why DO we all talk about how important expense ratios are, if the bottom line (apart from the other factors - taxes, etc.) is that the M* total returns already account for them?
Because the expenses are the one thing we as investors have control over and compounded over time it adds up to a lot of money. Do not fall into the trap of evaluating funds based on M* "Total Returns". It is subject to bias based on when you choose to start and stop and frequently is comparing apples to oranges - particularly with managed funds. Another good reason to stick with index funds .

DD
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Old 03-21-2009, 05:37 PM   #12
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Frightening to think some companies charge north of 1% for an S&P 500 index. More frightening is that someone would PAY north of 1% for it.

Having said that, just over a decade ago, I was naive enough to pay a load for a fund. Admittedly it was "proprietary", but I'm sure I could have found a fund which would mimic the fund for no load.

As long as I learn from mistakes, I guess it's OK.
Learned the same lessons myself. Some pay the higher ER fees because they have no choice - a 1% ER S&P 500 index fund may be the cheapest fund in their plan. Hopefully some of the change Obama promises will be to bring some fudiciary responsibility into creating retirement plans for employees.

DD
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Old 03-21-2009, 06:32 PM   #13
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Because the expenses are the one thing we as investors have control over and compounded over time it adds up to a lot of money. Do not fall into the trap of evaluating funds based on M* "Total Returns". It is subject to bias based on when you choose to start and stop and frequently is comparing apples to oranges - particularly with managed funds. Another good reason to stick with index funds .

DD
When you say it is subject to bias do you mean my bias of what years I look at or that M* is biased in how they figure their total returns?

If it is my bias you are talking about, I agree that it is easy to say "Wow, look at the return this fund had this year, I gotta get in!" However, that's not what I am talking about. I look at the returns for all the years the fund has been in existence, and choose funds that have been around at least 5 years, preferrably 10. I look to see how many times they were above and below their categories for those 10 years. One of the books by Bogle (if I remember right) said you should look for funds that either match their category or outperform their category the majority of the time. So, if a fund falls below their category (by more than just a small amount) more than 3 or 4 of those 10 years, I stay away.

So, what if we had 2 hypothetical funds. Both have been above their category the majority of the time over 10 yrs. You look at 10 yr annualized total returns. Fund A's return is 10%. Fund B's return is 9%. Fund A has an expense ratio of 1.1. Fund B has an expense ratio of .6. They are both no-load. All else being equal, why would you choose Fund B?

BTW, I have ALWAYS been super concerned about expenses, keeping all my exp. ratios as far below 1% as possible. Now that I realize they are already figured into the total return, well...it's shaken me a little, and I really need to understand this. I appreciate everyone's help.
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Old 03-21-2009, 08:18 PM   #14
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So, what if we had 2 hypothetical funds. Both have been above their category the majority of the time over 10 yrs. You look at 10 yr annualized total returns. Fund A's return is 10%. Fund B's return is 9%. Fund A has an expense ratio of 1.1. Fund B has an expense ratio of .6. They are both no-load. All else being equal, why would you choose Fund B?
What are the specific funds you refer to? Looking at two metrics for two hypothetical funds serves what purpose?

If these two funds are index funds, then the lower expense fund will have higher return.

You have to look at other measures of risk to see how closely the two funds track their index.
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Old 03-22-2009, 10:13 AM   #15
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What are the specific funds you refer to? Looking at two metrics for two hypothetical funds serves what purpose?

If these two funds are index funds, then the lower expense fund will have higher return.

You have to look at other measures of risk to see how closely the two funds track their index.
You can also get burned by capital gains. A managed fund that returns 10% against an equivalent fund returning 9% may do so by much greater buying and selling within the fund thus generating more capital gains that by law have to be passed onto you so that gap of 1% can be quickly eroded with more taxes.
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Old 03-22-2009, 10:27 AM   #16
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Let me give another instance of comparing funds. My 401(k) plan has an intermediate term bond fund in it: Calvert Income CFICX. In the 401(k) we don't pay the front-end load. So a question might be, is is better to use CFICX in my 401(k) or to use the Vanguard Intermediate-term bond index fund VBIIX in an IRA for some of my bond allocation? Also you are making this decision in January 2007.

CFICX expense ratio is about 1.16% while VBIIX has about 0.2% expense ratio.

In 2003, CFICX had a Morningstar rank of 1 (better than all funds) in its category and in 2004-2006 it was ranked 3, 10, and 18. So it was always in the top 20% from 2003-2006. However in 2008, it lost 13% and the 10-year return is about 4.7%

VBIIX was ranked 28, 10, 54, 53 from 2003-2006. In 2008 it made 4.9% and the 10-year annualized return is about 5.75%.

So given the M* information in January 2007, which of these funds would you have picked? Go by performance and ratings? Or go by expense ratio? Or go by some other information?
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Old 03-22-2009, 10:55 AM   #17
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LOL,

The historic performance metrics you're using are an important factor, but you really need to also give consideration to the funds style and objectives. Is the fund going own the type of investments and manage them in a style you're seeking for the future? Then, use ER and historical performance to make a final decision.
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Old 03-22-2009, 10:58 AM   #18
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These two funds are intermediate term bond funds. My point is that one cannot actually use historic performance and it is a misleading factor.
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Old 03-22-2009, 11:19 AM   #19
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Historic performance is what it is. The user may be mislead, but any data can do that to anyone. The data is not in itself misleading. It is just a metric calculated from past results. How the user choses to use the data may not be appropriate and may lead to unfounded expectations.
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Old 03-22-2009, 11:48 AM   #20
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So, what if we had 2 hypothetical funds. Both have been above their category the majority of the time over 10 yrs. You look at 10 yr annualized total returns. Fund A's return is 10%. Fund B's return is 9%. Fund A has an expense ratio of 1.1. Fund B has an expense ratio of .6. They are both no-load. All else being equal, why would you choose Fund B?
Mostly religion. It is an article of faith among certain mutual fund investors that no skill is ever involved. Beyond expenses, it's all luck. And luck can turn on you.

I have no interest in debating this point, but I think this attitude reflects prejudice more than evidence.

Ha
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