A key reason for the low balances of the even those at the top of the pecking order for 401(k) plans is unconscionable fees imposed by the mutual fund industry. According to a report by Demos, the average mutual fund earns a 7% return but, after fees, the net return is only 4.5%.Think of it this way: You work hard. You contribute the minimum to your 401(k) plan necessary to get the maximum contribution from your employer. The mutual fund industry takes over a third of the total returns they generate. Few employees realize this stunning fact because the “expense ratio” of the funds is expressed as a percent of total assets. Demos found the average expense ratio of mutual funds in 401(k) plans was 1.27% in 2010. This doesn’t sound very significant until you do the math.
It’s not surprising that the mutual fund industry is one of the most profitable sectors in the U.S. According to Management Practice, Inc., the average return after all costs of mutual fund companies is “about 30% of revenue.”
While these fat cats are reaping these profits and taking no risk, how are they doing as “investment managers”? Every investor should read David Swensen’s scathing indictment of the mutual fund industry. Mr. Swensen is the chief investment officer at Yale University. He correctly notes that “[F]or decades, investors suffered below-market returns even as mutual fund management company owners enjoyed market-beating results. Profits trumped the duty to serve investors.”
It’s time to stop the carnage.
Investors need to ask their advisers for .’net’ return not ‘gross’ returns. We must be aware of the questions we ask. Most advisers are taught by their compliance departments on how to answer specific questions.
Please comment or call to discuss how this affects you and your portfolio.