Tuesday, July 1, 2008


Here’s a question that crops up frequently on The Money Show:
‘Isn’t it true that I should only invest in no-load mutual funds?’ The answer is an unequivocal, “No!” Why? Let’s take a look.

Types of Load Funds

First, what exactly is a “load”? Generally, there are two types.

A front-end load (often referred to as an “A” share) is an up-front commission, which covers the cost of paying mutual fund salespeople. It’s a one-time fee – but you will be charged each time you purchase additional shares of the fund. Generally, these fees run between 3 and 5.5%. So, for example, if you invested $2,500 in a fund that carried a 5% up front load, the fee would be $125. If you later invested another $2,500, you’d pay another $125 fee.

A back end load (often referred to as a “B” share) serves the same purpose as a front-end load. But, it’s only charged against money withdrawn before a set period of time. Back end loads generally work on a sliding scale, starting as high as 5.5% on money withdrawn from the fund in the first year, decreasing down to 1% on money withdrawn, usually, in the 5th or 6th year, and (usually) disappearing after that. (Additionally, some funds also sell C shares – a form of “back end” load where you’re charged a sales fee – usually 1% per year – for the entire time you own shares in the fund.)

Choosing Between Load and No-Load Funds

OK, than, since load funds do charge a fee, and, no-load funds don’t), why shouldn’t you avoid load funds and only invest in no-load mutual funds? Well, all things being equal, if you’re choosing between two funds which both perform well and fit well within your portfolio, than you are better off choosing the no-load fund. But, the reality is, things aren’t always equal, so only buying no-load funds is not a good policy. The reason?

Your biggest concern when investing in mutual funds is with a fund’s long-term net return. The problem is, for a large portion of people, choosing only no-load funds while also choosing only the best funds ( i.e. those with the best net returns) available to them often isn’t possible. Why’s that?

First, a large portion of many people’s mutual fund investments are through their company’s retirement plans, and many of these plans only offer funds that charge a sales load. Second, in many cases, the best funds (those with the best net returns) available in a particular arena of investing – for example, global or international funds – may all be load funds. So, again, don’t avoid purchasing shares in a mutual fund simply because it charges a load.

Which Type of Load is Preferable?

While we’re at it, one final question. When you do purchase a mutual fund (or funds) that charge a sales load, what type of load should you choose: a front end load (A share), or back end load (B or C shares)? While it may seem counter-intuitive, in the long run, the upfront load – A share – is the better one, financially. Why? Because the total expense ratio on front end loaded (A share) funds (the load, plus 12b1, management, and other fees charged by the fund) is much less than on back end loaded funds (B and C shares). And this is true with back end loaded funds even if you don’t sell your shares in the fund until after the back end load has disappeared.