As we all know, there has been a lot of talk about the costs of mutual funds, and the rhetoric seems to be ratcheting higher lately.

The cost often cited as the most critical for investors to take into account when buying an investment is the management expense ratio — the multi-pronged figure that encompasses everything from the cost of investment management services provided to the fund to that of the financial advice from the advisor. The MER also includes advisor trailer fees.

Unfortunately, the MER is being used to make comparisons that aren’t apples to apples, and this may be a problem for some clients. What investors really need to look at are the costs of buying a product, the cost of selling it, the cost of maintaining the product and the holding period.

The cost of buying (front-end loads) and selling (deferred sales charges), as well as maintaining a mutual fund, are clearly disclosed in the prospectuses for mutual funds. But similar costs for many other investments are not so clear.

The holding period for the average mutual fund in Canada is about five years. In the case of exchange-traded funds, there are no Canadian figures available, although Vanguard Group founder John C. Bogle says shares in ETFs in the U.S. typically turn over at an average annual rate of 200%. This translates into an average holding period of six months, making these investments a costly venture for investors who are paying fees or commissions for each and every purchase and sale. These costs must be taken into account as part of the total cost of ownership.

Mutual funds are available in small amounts — some requiring initial purchases of $100 or less. When you look at stocks or other investments traded like stocks, they generally need to be purchased in large amounts, usually board lots or multiples of them. Those who use full-service advi-sors (advocates of mutual funds and ETFs espouse the value of advisors) are charged a percentage of the transaction amount to buy and to sell them. So, for a $5,000 trade, it could cost as much as 2.75%. Minimum commission can be $100 — for each purchase and each sale. We checked with a few full-service brokerages: a sale of stocks or stock-like investments with values greater than $10,000 can cost anywhere from 1.5% to 2.5%, declining as the order gets larger. In some cases, investors need to buy a large enough amount of an investment to justify the commissions.

There are some fee-based programs in which a client can trade stocks with low or no fees, in exchange for a quarterly account fee based on assets under management. Other fee-based planners charge by the hour or just receive trailers (no sales commissions on trades), often through the purchase of wrap accounts.

Other advantages to investing in mutual funds over other types of investments:

> Mutual fund managers buy large blocks of stocks on an institutional basis, so investors get the best price with a low bid/ask spread. Those purchasing other investments at the retail level sometimes face a higher bid/ask spread that can lower returns by as much as 1% or 2%.

> Mutual fund managers pick and choose the stocks that go into their funds and rebalance them on a set time period at no additional cost to unitholders. Other than segregated funds (which are basically mutual funds with a life insurance wrapper) there are few, if any, other investments that offer such value. An investor wishing to rebalance many other products faces transaction fees or commissions for each trade.

> Mutual funds offer the use of pre-authorized cheques, systematic withdrawal plans and reinvested distributions.

And let’s not forget the most important thing about an MER: it is only one piece of required information. Investment objectives, time horizon and purpose for the investment all go into making an informed investment decision.

When clients ask you about their investments, it’s important to measure apples to apples and ensure investors have all the information they need to make an informed decision, on both the product and the true cost of owning that product. IE



Joanne De Laurentiis is president and CEO of the Investment Funds Institute of Canada.