Front-End Load Mutual Funds
There are a number of mutual funds out there. Today, I want to
talk about front-end load mutual funds. Front-end load mutual funds charge
commissions or sales fees at the time of the initial purchase. What does that
mean? Let’s say you are putting $5,000 towards purchasing an investment fund
with a 5.5% front-end sales load. The brokerage will deduct $275 ($5,000 x
5.5%) from the investment, then use the rest ($4,725) to purchase the mutual
funds. Historically speaking, front-end load funds haven’t really outperformed
other types of mutual funds or Exchange Traded Funds (ETFs). More importantly, historically speaking most mutual funds and hedge funds (90%) didn't outperformed any stock market index.
Here is a nice
comparison from yahoo.com that shows the problems with front-end (and back-end)
load mutual funds:
Assuming a $10,000 investment with a conservative nine percent
annual net return rate (after annual fund operating expenses) over three years,
the following illustrations compare the differences in total return and Return
on Investment (ROI) among three different types of mutual fund sales
structures:
* 100% no-load (no 12b-1 fees)
* 5% front-end load with 0.5% per year 12b-1 fees
* 3% back-end load with 0.5% per year 12b-1 fees (redemption in
year 3)
Total Return Comparison
|
|
Start
|
Year 1
|
Year 2
|
Year 3
|
100%
No-Load
|
$10,000
|
$10,900
|
$11,881
|
$12,950
|
5%
Front-End Load
|
$ 9,500
|
$10,303
|
$11,174
|
$12,119
|
3%
Back-End Load
|
$10,000
|
$10,845
|
$11,762
|
$12,374
|
Cumulative ROI Comparison
|
|
Year 1
|
Year 2
|
Year 3
|
100%
No-Load
|
9.0%
|
18.8%
|
29.5%
|
5%
Front-End Load
|
3.0%
|
11.7%
|
21.2%
|
3%
Back-End Load
|
8.4%
|
17.6%
|
23.7%
|
As far as cumulative ROI after three years in this illustration,
the 100 percent no-load fund outperforms the five percent front-end load fund
by 39.3 percent and the back-end load fund by 24.4 percent -- even though a
nine percent annual return rate is identical for all three funds! The ROI
advantage of the 100 percent no-load fund in this illustration is due entirely
to the absence of both sales load and annual 12b-1 distribution fees. The
advantage of the 100 percent no-load fund in these illustrations is obvious.
Comparative ROI differences would be even more dramatic as the annual return
rate parameter falls below nine percent and less dramatic as the annual return
rate parameter rises above nine percent.
Does this imply that all no-load funds are superior to all load
funds? Of course not. Obviously, a five percent front-end load fund with a 15
percent annual return will outperform a no-load fund with a nine percent annual
return. However, no-load funds that carry above average rankings (from
Morningstar or Lipper) will most likely outperform load funds, provided that the funds are in the same
fund category (i.e.; growth, growth & income, global, corporate bond) with
a time frame of at least three years.
Finally, you should be aware of custodial fees or managerial
fees. Recently, a major brokerage firm announced that it would be offering
no-load funds from 28 fund families without charging commissions or 12b-1 fees.
However, this firm will compensate salesmen by charging clients up to 1.5
percent of their assets on an annual basis. Over a relatively short time, these
fees would be substantially greater than even a five percent front-end load! It
is best to avoid these types of fees and maintain the no-load advantage. (http://finance.yahoo.com/funds/how_to_choose/article/100601/Load_vs__No-Load_Funds)
