That's investing guru William Bernstein's
two-word answer to the question: What's the most important thing investors need to learn? Other folks who look out for fund investor interests sound the alarm as well, including
founder John C. Bogle in a
Wall Street Journal
editorial this week. Bogle noted that fund expense ratios reached an all-time high of 1.6% in 2002.
And that's just the half of it: Turnover costs, thanks to increased trading activity by fund managers, total eight-tenths of 1%. Add to that sales charges and other expenses, and costs for the average stock fund run as high as 3% a year -- "very close to the 2.9 percentage points by which the annual returns of mutual funds lagged the stock market during 1984 to 2002," Bogle notes in the editorial.
Bogle and Bernstein share a common prescription to runaway mutual fund costs: index funds, which carry expense ratios as low as 0.15% because they don't require active management. There's a
great argument to be made for index funds and the low costs and long-term returns they provide. But what about investors who firmly believe a few savvy managers can outperform the broader market through sound stock-picking? How can they beat the high cost of actively managed funds?
Today's Five Winning Funds highlights great actively managed funds that sport expense ratios of 1% or less. We selected funds from a diverse group of asset classes -- large-cap, small-cap, bonds, international and real estate -- to show how investors can build a portfolio of actively managed funds that don't cost an arm and a leg. The funds sport great long-term records, all of which beat their benchmark indices and most of which rank in the top 10% of their peers over the past 10 years.
Before we get to the list, a few more quick points on costs investors should consider:
Loads, or sales fees that run as high as 5.75% tacked on the front end or back end of a purchase, hurt investors right out of the gate and should be avoided in almost all circumstances.
Too Much Trading Hurts.
Between 1950 and 1965, it was rare when a fund's portfolio turnover -- a measure of how much of the portfolio's holdings goes in and out of a fund in a year -- exceeded 16% annually. Today, the average fund manager's turnover rate is 110%. This increased trading activity has helped push up transaction costs -- paid by you, naturally. Investors should pay close attention to how actively fund managers shuffle their portfolios -- Morningstar lists the turnover of every fund in its massive database.
Without further ado, here are today's fund winners:
Large-Cap: Dodge & Cox Stock
Dodge & Cox Stock gets heaps of well-earned praise for its outstanding long-term performance. But it deserves equal praise for its performance on the other side of the coin: Its expense ratio is a mere 0.54%.
The value-oriented Dodge & Cox Stock fund, run by a 10-member committee with an average tenure of 22 years at the firm, keeps costs low by avoiding rapid-fire trading and sticking to a buy-and-hold discipline. Annual turnover is 13%.
Meanwhile, the long-term performance is enough to make
Vanguard 500 investors jealous. As co-manager Katherine Herrick Drake
explained in a recent interview, the fund has trounced the
by avoiding overpriced stocks such as
, the two largest components of the benchmark index.
and, more recently,
rank high among the fund's favorites.
The fund's 8.61% average annual return of the past three years ranks in the top 3% of all large-cap value peers and beats the S&P 500 by 19.3 percentage points, according to Morningstar. Likewise, the 10-year average annual performance of 13.88% ranks in the top 2% and exceeds the S&P 500 by 3.84 percentage points.
What about the growth side of the large-cap arena?
T. Rowe Price's Growth Stock is a great low-cost performer with a stellar longtime manager in Robert Smith. Under Smith, whom
interviewed in the fall, the fund has turned in three-, five- and 10-year performances that rank in the top 10% of all large-cap growth peers, according to Morningstar -- including a 10.87% average annual return over 10 years good for the top 9%. The no-load fund's expense ratio is 0.77%.
Mairs & Power Growth is another great performer, and it sports a 0.78% expense ratio.
Small-Cap (Tie): Vanguard Explorer and Liberty Acorn Small-Cap Growth
These two growth-oriented small-cap funds are great performers that offer low costs to boot.
The $4.6 billion
Explorer is one of Vanguard's actively managed funds -- it's run by five seasoned subadvisers. However, the fund remains true to the firm's low-cost religion. The expense ratio tallies 0.7%, and turnover runs at 69% a year.
Because it holds 900-odd stocks, it's something of an unofficial index fund for small-cap growth stocks. The fund's three-year average annual return of negative 4.03% and five-year average annual return of 7.13% rank in the top quartile of its category, according to Morningstar.
The $7.6 billion-in-assets
Liberty Acorn Small-Cap Growth has been an even better performer, while keeping its expense ratio at 0.82% and its annual turnover at 13%.
Longtime co-managers Ralph Wanger (who steps down later this year) and Charles McQuaid have led the fund to three-, five- and 10-year returns that place among the top 15% of all small-cap growth funds, according to Morningstar. The fund's 10-year average annual return of 12.48% beats the Russell 2000 Growth index by 8.13 percentage points.
Bonds: Dodge & Cox Income
Once again, the folks at Dodge & Cox earn a place in the winner's circle with
Dodge & Cox Income, which sports a 0.46% expense ratio and outstanding long-term results.
The skippers put a little more than half of the fund's $3.94 billion in assets in government bonds, and choose carefully among corporate bonds, scooping up debt offerings from
while avoiding the big blowups of the past few years.
Dodge & Cox Income's three-, five- and 10-year returns rank in the top 5% of its intermediate-term bond fund peers, according to Morningstar, thanks in part to soundly navigating changes in rate environments.
International: Harbor International
It's a bit tougher to find dirt-cheap international funds, where the average expense ratio is 1.73%. But the
Harbor International fund has been a good, low-cost choice.
The fund, which carries an expense ratio of 0.77%, has notched stellar returns among a group that has had a tough time of it the past few years. Skipper Hakan Castegren has run the fund since 1987 with a value bent, notching a 10-year average annual return of 9.48% that ranks in the top 4% of all international funds. It also beats the benchmark MSCI-EAFE index by 6.7 percentage points.
While Harbor recently upped the minimum investment for the fund to $100,000 and rolled out a new share class (ticker:HIINX) that sports a 1.68% expense ratio, the original fund is still available on
with the lower expense ratio and a $2,500 minimum investment.
There are some great international funds with expense ratios above 1% that are still worth considering, such as
Tweedy, Browne Global Value, which sports a 1.37% ratio and great returns.
Real Estate Funds: T. Rowe Price Real Estate
Mutual funds that focus on real estate earn high marks from asset-allocation experts for providing diversification --
click here to read a recent article. One of the cheapest and best out there is
T. Rowe Price Real Estate.
The no-load fund, which sports an expense ratio of an even 1%, has returned 13.51% a year on average over the past three years and 8.4% over the past five years -- ranking it in the top 33% and top 1% of its peers, respectively, according to Morningstar. In addition to great performance and low prices, the fund has a good manager in David Lee and the backing of a stellar fund shop in T. Rowe.
Investors should check expenses and returns, especially because past returns may not always continue but costs surely will.