This is the inaugural guest column by Jonas Max Ferris, a founder of

Charles Ponzi stepped into financial history when he perfected what is now commonly known as a "Ponzi scheme" in the early 20th century. While recent financial sham artists may give Ponzi a run for his (or rather your) money, we'll have to wait and see if expressions like "Lay scheme" or "Ebbers swindle" ever make it into the vernacular for generations to come.

The scam Mr. Ponzi popularized reappears in many forms, but the basic structure remains the same. It's a structure that shares some peculiar similarities to the unusual use of fees at the

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Bernstein Emerging Markets Value fund.

While there's a big difference between a legitimate investment and a Ponzi scheme, the fund's investors should be aware of who benefits from the fee structure. (Bernstein did not respond to inquiries about the bizarre fee structures.) For all fund investors, pulling back the curtain at Bernstein Emerging Markets Value provides a crucial lesson on how excessive and confusing fee structures may help a fund's reported performance but hurt the fundholders' wallet.

In a Ponzi scheme, investors are corralled with promises of riches by letting the operator manage their money through some exotic and profitable venture. The project claims to be profitable but pays off early investors with other investors' money rather than real gains made from the presumed investing activities. It works as long as money coming in exceeds redemption requests. Inflows are kept up by reporting spectacular returns.

What does any of this have to do with legitimate mutual funds -- a business (unlike hedge funds) so highly regulated, hardly a true sham has taken place since the

Securities and Exchange Commission

put the Investment Company Act into place some 63 years ago?

Costs Primer

First, you have to know a little about mutual fund costs.

All funds have fees paid by shareholders. Expenses for printing, legal, accounting and administration are removed from fund assets along with management fees.

In addition, load funds take money from investors' capital when they invest, while they invest or when they stop investing. This money comes out of an investment and goes into someone's pocket for selling the fund.

Some funds also levy so-called redemption fees when you sell a fund, which are not sales loads. These fees come out of your investment. If you pull $10,000 from a fund with a 2% redemption fee, you receive $9,800. Who gets the $200? Unlike a sales commission, this $200 goes into the fund's coffers to benefit other shareholders.

The reasoning behind redemption fees is rock-solid. Removing money from a fund often means the manager has to sell stocks to raise cash to cut you a check. This selling creates trading costs like brokerage commissions. Trading out of the fund hurts fund performance ever so slightly for others. Redemption fees are an attempt to reimburse the fund's other shareholders for the costs incurred when an investor leaves.

Some investors move money in and out of funds in an unending pursuit of the hottest fund. Smart funds try to limit this "hot money" with redemption fees. Typically the fees only last a few months -- more than enough time to keep those fickle investors at bay.

The Bernstein Emerging Markets Value fund has a redemption fee. On the surface, that's understandable. Emerging markets are volatile and have wild performance swings. If any category of funds needs redemption fees to thwart the hot money, this is it. Adding to the problem is the cost of trading emerging-market stocks, which is higher than in developed markets.

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But in the case of the Bernstein fund's redemption fee, it's too much of a good thing. Unlike most funds, Bernstein's redemption fee of 2% never goes away. If you own the fund for 10 years and sell it -- the very definition of a long-term investment -- you're still going to get hit. Not happy with outdoing other funds on the back end, Bernstein tags on a 2% purchase fee. Like the 2% redemption fee, this fee goes into the fund's assets. If you put $10,000 into the fund for a week and sell, you will leave $400 with the fund.

Excessive fee-collecting juices returns. The fund collected tens of millions of dollars in fees over the years, adding as much as 1% a year to the fund's performance. While that may not sound like much, funds can get 5-star ratings from Morningstar on less of a long-term performance difference than competitors with 4 stars.

Fees added to fund capital also add return with no extra portfolio risk -- it actually lowers a fund's standard deviation, further juicing ratings. Regular fund expenses, like management fees, lower risk-adjusted return, as they leave investors with the risks of investing and siphon off some of the return. These normal expenses, unlike purchase and redemption fees, are factored into risk/return calculations -- one reason why high-fee funds tend to have crummy risk-adjusted returns.

Bernstein seems to capitalize on this anomaly with additional unusual fees. In the fund business, there are minimum fixed costs to maintain shareholder accounts, usually about $10 to $15 per account per year. Small accounts don't generate the fees needed to cover these costs, saddling other shareholders with them. Small account-balance fees or account maintenance fees, like redemption fees, can help alleviate this problem. Vanguard charges investors in its popular

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500 Index fund $10 per year if their balance falls below $10,000. This money goes back into the fund's assets like redemption fees. These low-balance fees are also not factored into risk-adjusted return or expense ratios.

Like redemption fees, Bernstein takes a good concept too far. In the Bernstein Emerging Markets Value fund, the account maintenance fee is $100 per year if your account is less than $400,000. And unlike Vanguard, the fees don't go back into the fund. They go to Bernstein.

The effect is that Bernstein gets to make more money and not have it raise the quoted expense ratio, lower performance figures, or lower the risk-adjusted return as would normally be the byproduct of such actions. For an investor with $10,000 in the fund, the real total expense ratio is not the quoted 1.75% a year. It's closer to 2.75% a year when you factor in the $100 annual fee.

Sadly, the effect of the $100-a-year fee does not show up in the funds fee table in the prospectus that shows how much an investor with $10,000 pays in actual dollars. This omission further obscures matters for those few investors who get beyond the stars and performance figures when investing.

The purpose of a redemption fee is to deter active fund trading by investors and make investors pay for the costs they would otherwise dump on other shareholders. The purpose of an account maintenance fee is to make small accounts pay for their burden on the fund.

Most funds achieve these goals with fees of less than 2% on redemptions made in less than one year and with low account fees of a few dollars per year on small balances. A 2% redemption fee that doesn't go away


a 2% purchase fee combined with $100 fees on accounts under $400,000 goes overboard. These fees juice performance and manipulate simplistic fund ratings and rankings.

Sanford C. Bernstein is a respected company now owned by Alliance Capital Management. The Bernstein Emerging Markets Value fund is a 5-star rated fund with more than a half billion in assets. Adjusting for these unusual fees, the fund is still one of the best in the category.

In all likelihood, these fees were designed to limit retail investor interest in the funds. Bernstein did not respond to inquiries about the bizarre fee structures. The phone representatives claimed the $100 fee was reinvested into the fund's assets, which conflicts with a prospectus that states the money goes to Bernstein. This is not a fund family that deals with individual retail investors, so this behavior is not altogether villainous.

Nonetheless, this fund has been in operation for seven years. In that time, only the proprietors of the fund have made any money -- the average investor in the fund has lost money. Additionally, over every trailing performance period, this fund has earned more money from the front- and back-end fees than actually investing in emerging markets.

Jonas Max Ferris is a founder of, a fund research and analysis company, and partner in an investment advisor. He welcomes column critiques, comments, or baseless accusations at