Mutual Funds: Rule clarifies costs

NEW YORK – Mutual funds that invest in other funds can bring diversity to a portfolio, but can also add layers of expenses. A new rule requiring so-called funds of funds to tabulate costs from underlying funds could result in surprises for some investors.

Previously, funds were required to list only the expenses added at the top – the funds of funds level. Under the new rule, which takes effect with the new year, investors could see expense ratios of their funds of funds jump.

While advocates say it adds an important layer of transparency, managers of some smaller funds of funds are crying foul, saying the rule will paint their funds as more expensive than they essentially are.

“In many cases, funds of funds have layering of fees taking place. This will help provide investors with a better understanding of the actual costs of investing in a fund of funds,” said Susan Ferris Wyderko, executive director of the Mutual Fund Directors Forum, an organization for independent mutual fund directors.

“It’s the actual cost of investing as opposed to hiding some of the expenses,” said Wyderko, who spent 20 years at the Securities and Exchange Commission.

Wyderko said investors will have an easier time determining how much will be lost to expenses with various funds.

Opponents argue that the disclosures will penalize funds of funds by making their expense ratios appear disproportionately large. They argue the expenses in the underlying funds are already reflected in the net asset value of those funds.

“It already has a fixed expense rate included in there,” said Curtis Teberg, manager of an eponymous fund of funds. “I’m not paying $10 a share plus 50 cents per share in administration fees,” he said, referring to his costs when buying shares of a fund.

He said the Teberg Fund, whose assets total $136 million, will see its reported expense ratio jump to about 4 percent from 2.33 percent.

“I think it’s a great disservice. It will kill this type of product. This indicates to the people that we’re a greedy part of the industry and we’re not.”

Teberg expects only several dozen funds of funds to be hurt by the rule change, as the bigger players can more easily hold down costs or use proprietary funds.

Andrew Gogerty, an analyst at Morningstar Inc., which rates funds, dismisses the argument that the just because expenses of an underlying fund are reflected in its net asset value the expenses shouldn’t matter. “The (net asset value) is calculated after the expense hurdle,” he said.

Jeffrey J. Unterreiner, who manages the Opti-Flex Fund, a small fund, is somewhat concerned about losing investors though he contends the fund’s returns justify the expenses.

“I think we are a more expensive approach to managing money,” Unterreiner said. “With a traditional mutual fund you’re paying for security selection. With our investment approach you’re paying for security selection and asset allocation.”