Mutual funds are one of the most flexible and available financial products for new investors. They are within the reach of practically anyone. With as little a $25/month, anyone can get started.
See my previous article about what are mutual funds.
Let’s say that you decide to get started investing in mutual funds. Open your browser, type “mutual funds” and you will be presented with myriad options. There are more mutual funds than stocks in the stock market.
The first step is to ignore all the mutual funds which are advertised. The reason is that these funds take money from the pocket of investors to buy advertisements. Not only the fund pays for advertising, but they also pay handsome yearly commissions to the financial advisers (financial product pushers) who sell it to you. These commissions are often called trailer fees and they are about 1% per year.
How much are you paying in management fees
Most mutual funds in Canada have management fees of between 2% to 3%. You should avoid those at all costs. Canadian mutual fund companies should be ashamed to charge such ridiculously high prices. Those generous commissions are coming out of the pocket of the investor year after year.
Unfortunately, those are the mutual funds that most financial advisers (financial product pushers) will recommend to the public, the reason is that those are the products that will pay the highest commission.
Here is a rule of thumb. If the management fee is more than 0.5%, run away. Don’t even consider it.
Actively managed funds underperform index funds by a lot
By this time I have read hundreds of reports claiming that most actively managed funds do not beat the index. Some reports say that 75% of actively managed funds underperform, other reports say that 90% of active managers underperform. It doesn’t matter… The conclusion is that the investor is better off investing in index funds than on actively managed funds.
Steps to invest in Index funds
All major Canadian banks are catching up with the index fund reality. Most of the time they will not promote their index funds, they rather promote their actively managed funds. But all of them have their own version of index funds, you just have to ask for it. Look or ask for funds with these keywords: “Canadian Index,” “US index,” and so on.
Some banks offer index funds with an expense ratio of more than 0.5%, simply ignore those funds and go with the bank who is offering index funds that cost 0.5% or less. Remember, the more you pay the bank, the less that it’s leftover for you.
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