What to look for in your fund investments, beyond low fees

AP News
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Posted: Mar 02, 2017 4:31 PM

NEW YORK (AP) — Fees are the first thing that investors should consider when looking at a fund investment, and the financial industry has been tripping over itself to cut expenses ever lower. But expenses are hardly the only thing to consider.

Keeping expenses low has been in the spotlight, mostly because it's proven to be one of the best and easiest ways to help your savings grow. A fund with low fees has an automatic head start over higher-cost rivals for returns, and compounded over years the advantage can grow even more powerful. Mindful of this, investors are pouring their money into lower-cost mutual funds and exchange-traded funds.

The industry has taken notice, and is racing to cut expenses to draw in increasingly cost-conscious customers. Charles Schwab's mutual fund that tracks the S&P 500 index charges $3 in fees annually for every $10,000 invested, down from $9, effective Wednesday, for example. A decade ago, investors across all stock mutual funds were paying $86 of every $10,000.

With research stacked up to show that having low expenses is one of the best predictors for future performance, it's tempting to sort a list of funds by expenses and simply pick the cheapest one. But that may not provide the best fit. Here are some other points to consider:

— What index does the fund compare itself against?

Two index funds with similar names and similar expenses should be similar, right? Not if they're tracking different indexes.

Todd Rosenbluth, head of mutual fund and ETF research at CFRA Research, points to two that invest in stocks from developing economies as an example. Vanguard's FTSE Emerging Markets ETF and the iShares Core MSCI Emerging Markets ETF charge an identical amount in fees: $14 annually of every $10,000 invested.

But their performance has not been identical. In 2014, Vanguard's ETF was virtually flat, while the iShares ETF lost 3.4 percent. So far this year, the iShares fund has returned a bit more, at 10.3 percent versus 9.9 percent, as of Wednesday.

One reason for the difference: all those curved-edge mobile phones people are using. The iShares fund counts Samsung Electronics as its biggest investment, part of the nearly 15 percent of its portfolio that it allocates to South Korean companies. The Vanguard fund, meanwhile, has no South Korean stocks because the index that it tracks considers the country a developed market, not an emerging one.

Vanguard's ETF also includes Chinese stocks that trade in Shanghai and Shenzhen, known as A-shares, which have long been difficult for foreign investors to access. The index that the iShares ETF tracks doesn't include these stocks, which some investors say offer more direct access to China's growing consumer economy but are prone to bigger swings in price.

— How much freedom does the fund have?

Fidelity's Total Bond fund and American Funds' Bond Fund of America are both among the biggest fixed-income funds, and both focus on intermediate-term bonds with similar maturities. Both are also actively managed funds, which means they compare themselves to benchmark indexes but don't mimic them.

But investors who invest in the Fidelity fund should be willing to potentially take on more risk than those in the American Funds offering. That's because the Fidelity fund can put up to 20 percent of its investments in junk bonds, which offer some of the highest yields but are issued by companies with weak credit ratings. The American Funds offering, meanwhile, typically caps its potential investment in junk bonds at 10 percent.

Bond funds also allow their managers to put varying amounts of their investments abroad, including emerging markets. American Funds' Bond Fund of America can put up to a quarter of its assets outside the United States, for example.

— How popular is the ETF?

Besides price, investors should check to see how actively traded an ETF is. Ones that are small and trade infrequently can have wide gaps in price between what sellers and buyers are offering.

Funds that are larger in terms of assets are also less likely to be in danger of shutting down. ETFs are wildly popular, and more are opening every day, but many also close when their popularity wanes. BlackRock's iShares, for example, shut ones that focused on foreign inflation-linked bonds and on Latin American stocks last year, among others.