Mutual Funds Hike Short-Term Redemption Fees

In response to the ongoing mutual fund scandal, more fund companies are levying short- (and not-so-short) term redemption fees in an effort to keep destructive hot money at bay. And scandal-tainted fund families happen to be leading the fee-hike bandwagon.

The irony is that the practices of a scandal that cost fund investors money will be partially rectified by charging investors more money.

Don't get me wrong, redemption fees are the only fees that generally help longer-term investors. Redemption fees are not back-end loads or sales commissions. Unlike loads, redemption fees are left in the fund to offset the financial burden redemptions can cause to other shareholders.

All Redemption Fees Are Not Alike

The fee usually applies when redemptions are made within a short time after purchase, often one to three months. Occasionally the fees apply to longer periods of time.

Vanguard Capital Opportunities (VHCOX), for example, has a 1% redemption fee for sales made within five years. Vanguard Emerging Market Index (VEIEX) has a 0.5% redemption fee that never disappears (on top of a 0.5% purchase fee). The Bernstein Emerging Markets Value fund (SNEMX) has a 2% purchase fee and a 2% redemption fee that never goes away. According to Financial Research Corporation, there are just 26 funds with perpetual redemption fees. Of the 19% of funds that have any redemption fee, about 80% charge redemption fees for sales within thirty, sixty, or ninety days of purchase. The average redemption fee is 1.54%.

Fund companies love charging redemption fees because it helps fund returns. This is especially true when redemption fees exceed the actual cost of shorter-term investing to the fund. Performance numbers drive the marketability of a fund and redemption fees can only add to quoted returns.

Even the Investment Company Institute -- the mutual fund trade association that looks out for the best interests of member funds -- wholeheartedly endorses redemption fees. Now that the environment is redemption fee friendly, many are stepping up and adding new fees.