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I don’t know of any other way to put it.
What
started out as a great investment vehicle for diversification has
become a legalized scam on unsuspecting 401(k)- and IRA-loving baby
boomers.
Mutual funds now exceed 5 trillion
dollars in assets,
with over 5000 funds available. According to Smart Money
(February 1999), in 1998 only 12 percent of domestic equity funds beat the Standard and Poor’s (S&P)
500 Index; in fact, a third of these funds lost money
in 1998. Wait a minute . . . I thought we were in a bull market?
To add “insult to injury,” some funds have
even increased expenses and fees. The most blatant and unethical
charges involve funds that are closed to more investors, yet they
still charge marketing fees known as 12b-1 fees. Wow! No wonder MBA
graduates are clamoring to work for these mutual fund companies.
What about the tax consequences of mutual funds
bought in non-taxed deferred accounts? You have no control over
how often a fund manager sells stocks and has to pay capital gains.
The IRS
and the government in general must get a kick out of mutual funds
with high turnover rates; you, on the other hand, may end up owing
taxes even though your fund lost money for the year.
So how can you keep track of your mutual fund’s
holdings and performance? The answer is you can’t, at least not in
a timely manner. According to a Securities and Exchange Commission
representative that I spoke with, mutual funds are only required to
report their holdings twice a year, although most of them report on
a quarterly basis.
As far as
performance, you can look in the local paper or Wall Street Journal
and find the fund’s daily Net Asset Value (NAV), which is roughly
equivalent to share price of a stock. But how do know what your fund
manager is buying and selling on a daily basis? How overvalued is
the fund’s portfolio? Did your fund manager buy a million shares
of Subsurface Conductive Aeronautical Materials (ticker symbol:
SCAM)?
What should the sage investor do?
If you're in a
company-sponsored 401(k) or similar plan, try to select funds that
minimize turnover and that have low fees. An index fund should
certainly be considered as part of your portfolio, because of the
low fees. An index fund simply mirrors one of the major indices,
such as the S&P 500 or the Russell 2000. Vanguard Mutual Funds is a pioneer in the low cost index funds;
however, most large mutual fund company now offer index funds.
Better yet, create your own mutual fund by
finding a discount broker such as Waterhouse, Schwab, E-trade,
Scott Trade or others. Determine your aversion to risk and select at
least 10 to 12 companies. Use dollar-cost averaging to gradually
purchase these stocks and plan on holding them for several years (at
a minimum, they should be held for one year to minimize capital gains
taxes). Selecting stocks can be an entertaining and educational
adventure.
For new investors on a tight budget, start with a
few Dividend Reinvestment Plans (DRIPs) purchased directly from the
company without a brokerage fee. This allows you, the small investor,
to purchase as little as $25 to $50 worth of shares per month whenever you can
afford it. For example, I have shares of Wendy's, Texaco and Intel
that I still purchase through a DRIP plan. |
