Basically, the costs of owning a fund are called the expense ratio. The expense ratio represents the percentage of the fund’s assets that go directly toward the expense of running the fund. The expense ratio generally covers the investment advisory fee, the administrative costs, 12b-1 distribution fees, the transactions costs and other operating expenses.
The good thing about the expense ratio (from an understanding point of view) is that it wraps all these various costs and expenses into one number so that you don’t have to do a lot of math. Currently the typical expense ratio for an actively managed mutual fund is about 1.5%, though that number has been going up lately. With an expense ratio of 1.5%, a mutual fund is cutting itself in on 1.5% of the total money in the fund every year. That is regardless of whether there has been a good year or a bad year for the fund.
Even if the stock market doesn’t go up at all over the course of the year, the mutual fund will still pay itself 1.5% of the assets within the fund. With the trend towards a higher expense ratio being the way that it is, you as a potential or actual mutual fund investor should be aware that as time goes by, it is likely going to become more and more expensive to own an actively managed mutual fund.
A pretty simple concept, but something that is very important to pay attention to if you are going to be investing in a mutual fund.