For investors who pay a high fee to mutual-fund managers, the obvious question is: Are the fees worth it?
The answer, unfortunately, is often no.
Data show that actively managed mutual funds with relatively high expense ratios—yearly fees as a percentage of assets under management—are associated with some of the worst performing and most poorly managed funds, especially in the U.S.-stock category.
In addition to poor performance, these high-fee funds are also associated with elevated levels of risk and excessive portfolio turnover. The high-fee U.S. large-cap mutual funds had average volatility (swings in price, calculated using monthly fund returns and expressed as a percentage) of 11.54% over the past two years, while the low-fee option came in at 10.23% over the same period. Equally troublesome is that the asset turnover at these high-fee funds is nearly double that of the low-fee funds. On average, high-fee funds sell or buy 67% of their assets under management in a given year, vs. 35% for their lower-fee peers. This is perhaps a sign that these managers attempt to trade more to justify the fee they charge, but from the investor’s point of view, this only leads to a higher tax bill due to short-term capital gains and an even lower posttax return.
Finally, according to Morningstar Stewardship ratings, high-fee funds are also more likely to be associated with poor governance practices—regulatory issues, poor managerial incentives and practices such as charging hidden fees (front-end fees, back-end fees, 12b-1 fees). Indeed, the more expensive funds have a 30% greater chance of receiving a failing governance rating from Morningstar than do their lower-fee peers.