Tag Archives: Mutual Funds

How to chose a mutual fund

With my friend at the military academy

Mutual funds is one of the most flexible and available financial products for new investors. They are within the reach of practically any one. 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 of 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 advertisement. Not only the fund pays for advertising, but they also pay handsome yearly commissions to the financial advisers (financial product pushers) who sells it to you. These commission are often called trailer fees and they 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 cost. Canadian mutual fund companies should be ashamed to charge such ridiculous high prices.Those generous commission are coming out of the pocket of the investor year after year.

Unfortunately, those are the mutual funds which most financial advisers (financial product pushers) will recommend to the public, the reason is that those are the products which will pay the highest commission.

Here is a rule of thumb. If the management fee is more that 0.5%, run away. Don’t even consider it.

Actively managed funds under perform 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 under perform, other reports say that 90% of actively managers under perform. 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 this keywords: “Canadian Index,” “US index,” and so on.

Some banks offer index funds with 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 left over for you.

ETF or Index Fund? Which one should I buy?

ETFs or Mutual funds?

A regular investor has four investment vehicles.

  1. Bonds. I don’t recommend bonds because on the long run they always under-perform stocks.
  2. Single stocks. I don’t recommend single stocks because you have two risks; the stock risk ( lower profits, corporate scandals, etc. ) and the market risk (this risk can not be avoided).
  3. Mutual funds. I strongly discourage actively managed funds and equally promote index funds.
  4. Exchange Traded Funds (ETFs). Which are extremely similar to index funds, except on the way you buy then and sell them.
If you were my sister or my good friend, which one would I recommend to you

Both, ETF and Index funds are in all practical sense the same investment. Let’s say that I am interested in the Toronto-60 (which is an index of the 60 biggest Canadian companies). Both the ETF and the index will have exactly the same 60 companies.

The only difference will be on the way you buy them.

Let’s say I have $10,000. If I want to buy the ETF, I would go to my broker account, let’s say at 11:00 am. See what’s the price, imagine the price is $25/shr, and buy 400 shares. Most brokers charge $10 commission, so the total cost of my 400 shares would be $10,010.

If I want to buy the index fund. Most likely I will not have to pay a $10 commission, but my order to buy can only be executed at the end of the trading day. Let’s say that at 4:00 pm the stock closed at $25.05 then my transaction would cost me $10,020. On the other hand, they could had closed lower, let’s $24.90 and at this lower price, I could have saved a few dollars.

The bottom line is that with ETFs you have a bit more control over the purchase price than with index funds. But on the whole scheme of things, if you are investing long term, If you are planning to add this investment in your TFSA for many years, this little discrepancy should make no difference one way or another.

Buy this one if you have no money

However, let’s say you are my little sister, and you don’t have $10,000 just sitting in your checking account but could put $200 every month. In this case, an index fund would be the overwhelming choice. With an index fund, you could just buy $200 every month without paying a commission. The index fund company would even allow you to buy fractions of a share. Let’s say that after the first month, the price went up to $25.15. You could buy 7.95 shares.

To summarize, If you have a chunk of cash and you are planning to invest for a long time, it doesn’t make any difference if you invest in mutual funds or ETFs ( for the record, I prefer ETF ). But if you don’t have that much cash but you are willing to make periodic small purchases, then index fund would be the way to go.

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