An article written by Ray Calleja: Head – Private Clients, MeDirect

In the previous article when we discussed the when and how to buy a mutual fund, we touched on the matter of the cost involved, mainly the fee charged by MeDirect whether you are buying a fund online on your own or through our Advisory service.

Today we will discuss the investing costs actually charged by the fund itself. This can be a key factor in your final investment decision bearing in mind that any service charges for mutual funds come right off the top of your investment or straight out of your returns. Unfortunately, many investors are not aware of how much they are paying for their mutual funds.

Although costs alone should not be driving your investment decisions, it is very important to understand what is charged to your fund.

Sales Charges and Annual Expenses

There are two general categories of mutual fund costs – sales charges and annual expenses. A sales charge, often referred to as a load, is the broker’s sales commission or it is deducted from your investment when you buy the fund. Not all funds have an associated load. Most of the funds that we offer in our Advisory service do not have a front-end and back-end load other than the trading fee charged by the Bank, referred to above and in the previous article, i.e. 0.5% for online purchases and 0.75% for purchases effected via advisory, at the time of buying into the fund. For information purposes a front-end sales load is paid when you purchase fund shares while a back-end or deferred sales load is paid when you redeem your shares.

On the other hand, all funds charge annual expenses to cover the fund’s operating costs, including management fees, distribution and service fees and also general administrative expenses. These expenses are deducted from the fund before its returns are calculated.

Operating costs are common to most mutual funds and these are disclosed in the fund’s prospectus and annual report, usually as a percentage of assets and it represents the fund’s cost of doing business. So, for example, if ABC Mutual Fund has assets of €500 million and charges €4m in expenses, it will report an expense ratio of 0.8%.

These expenses are paid out of the fund’s overall assets, not charged directly to an individual shareholder and such deductions reduce the fund’s overall portfolio value.

A particular fund, including a no-load fund (as in most cases of mutual funds found on MeDirect’s wealth platform) may charge some or all of them, depending on how the fund is structured:

• Management fees – These pay the fund’s investment manager or management firm for making investment decisions about which securities to invest in and when to buy and sell.
• 12b-1 fees – Named after the section of the law that allows them, 12b-1 fees pay for the fund’s advertising and sales expenses. Not all funds charge this kind of fee. Around half of them do not.
• Reinvestment fees – These may be charged when you reinvest distributions, such as dividends, back into the fund.
• Exchange fees – These may be imposed when you switch your assets from one fund to another within the same fund company.
• Custodial fees – These are charged by the custodian (generally, the bank or other financial institution holding the fund assets in-house) for the service it provides.
• Administrative fees – These include everything from rent to shareholder services such as mailing out of prospectuses, annual reports, and account statements.

There are other costs which are not included in the expense ratio but instead are listed separately in a fund’s annual report or statement of additional information. Such costs include the brokerage costs, which are incurred by a fund as it buys and sells securities.

MeDirect’s website provides comprehensive information about each fund available for trading on the bank’s online platform and such information includes a section called Fees and Charges in the Key Information section, where you will know upfront what you will be paying in terms of Entry Fee; Custody Fee; Exit Fee and Ongoing Fee (or annual expenses). The ongoing fee includes a portion that is paid back to the Bank by the Fund Management Company as the trailer fee or retrocession.

In Europe, with the introduction of MIFID II regulations in January 2018, stricter rules have come into place in the way costs and charges are calculated and presented for funds. These changes apply to all asset management transactions where there is a cost of investing money in the market. The fund industry is under continued and deepening regulatory scrutiny, across all aspects of the business for the protection of the retail investor.

MeDirect’s Annual Costs and Charges Report

At MeDirect our investment customers receive their annual costs and charges report, which includes fees and charges related to mutual funds. The bank believes that it must not only be fully compliant with all the laws and regulations, but just as important is the need to provide transparency to our customers with important information which allows them to make informed investment decisions.

This annual statement lists the service fees collected by the Bank (as the investment firm), as an amount and also as a % of the value of investments.

The Costs and Charges are shown under three headings, namely

• The Investment Service and/or Ancillary Services, which refer to costs charged by MeDirect for the provision of investment services related to all investment securities (not just mutual funds). These may include any transaction charges such as when buying mutual funds, foreign exchange fees as well as capital gains tax and withholding tax on interest and dividends.
• The Investment Product Costs, which are fees embedded within the trading price/net asset value (NAV) and are charged directly by the fund house for mutual funds. Such costs apply to all investors. These may include any transaction fees, ongoing charges including distribution fees, performance fees and management fees (excluding trailer fees), as explained above.
• Third Party Payments Received by MeDirect shows the payments received by the bank from fund houses, and this refers to the portion of the management fees which the fund house pays the bank as a distributor of the mutual fund. This is also referred to as trailer fee or retrocession. On average this is 0.5% per annum of the client’s value of the investment in the fund. Please see example below.

The Costs and Charges statement also shows the cumulative effect of cost and charges on the return by displaying the return before the deduction of cost and charges and the return after the deduction of cost and charges, as a percentage of the value of the investment. Please see example below.

The report shows the effect charges have when comparing the return before and after the applied charges.

The return on investment calculation is based only on investments that are settled up to the last business day of the reporting period of the statement (e.g. 31 December xxxx). Pending orders or investments that are not fully settled are not taken into consideration. The return on investment calculations includes unrealized gains/losses as at the last day of the reporting period and also take into account cash distributions (dividends and interest) paid out on the client’s holdings, as well as any capital gains value, realized during the year.

Any costs or charges incurred in foreign currency and/or return on investment valuations based on holdings in foreign currency are converted into euro, using exchange rates applicable as at the last date of the reporting period.

Important Documents

Fund groups who market their funds for sale within Europe, including Malta, must produce a document for each fund (at share class level) called a Key Investor Information Document (KIID). Acting as a simplified prospectus, and around 2 pages long, the KIID has to be laid out in a standardised format which will allow investors to compare funds side by side. The purpose of the document is to provide information to retail investors in a straightforward and easy-to-understand format but which delivers critical information about the fund.

It is natural that you want to avoid unnecessary charges wherever possible. The bottom line for any investment is how it performs for the investor, and assessing that performance requires thoughtful consideration of all commission, fees and expenses. Just as important are a fund’s investment objectives and risks, which can also be found in the prospectus available for the fund. This should be read carefully, and questions asked about the fund’s published return figures, in the Annual Report. These documents are all available on MeDirect’s website in the Legal Documents section for each mutual fund and are kept up-to-date on an ongoing basis. In the next article we will go over the details of the most important documents related to mutual funds.

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The above is for informative purposes only and should not be construed as an offer to sell or solicitation of an offer to subscribe for or purchase any investment. The information provided is subject to change without notice and does not constitute investment advice. MeDirect Bank (Malta) plc has based this document on information obtained from sources it believes to be reliable but which have not been independently verified and therefore does not provide any guarantees, representations or warranties.

MeDirect Bank (Malta) plc, company registration number C34125, is licensed by the Malta Financial Services Authority under the Banking Act (Cap. 371) and the Investment Services Act (Cap. 370).

The financial instruments discussed may not be suitable for all investors and investors must make their own informed decisions and seek their own advice regarding the appropriateness of investing in financial instruments or implementing strategies discussed herein. 

If you invest in any of the products discussed you may lose some or all of the money you invest. The value of your investment may go down as well as up. A commission or sales fee may be charged at the time of the initial purchase for an investment and may be deducted from the invested amount therefore lowering the size of your investment. Any income you get from this investment may go down as well as up. This product may be affected by changes in currency exchange rate movements thereby affecting your investment return therefrom. The performance figures quoted refer to the past and past performance is not a guarantee of future performance or a reliable guide to future performance. Any decision to invest in a mutual fund should always be based upon the details contained in the Prospectus and Key Investor Information Document (KIID), which may be obtained from MeDirect Bank (Malta) plc.