According to an InvestmentNews article published yesterday, asset managers are able to stay profitable due mostly to the sale of high-priced alternative investments. By 2020, it is projected that alternative investments will account for 15 percent of assets under management, but a whopping 40 percent of annual revenues. Last year, alternative products account for about 33 percent of revenue across the asset management industry.
The same is true for actively managed mutual funds. The real cost of owning a managed mutual fund includes management fees, administrative fees, and marketing fees (also known as 12b-1 fees that go towards the recommending broker’s commission). Active managers still control the vast majority of mutual-fund assets. For years, many experts have been saying that investors would be better off in low-cost passively managed index funds, although active managers still control the vast majority of mutual fund assets.
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The high costs of these products for investors make it necessary for the investment to overcome those costs just to match the returns of the average passively managed portfolio. It is essentially starting out with a handicap of about 2 percent to 10 percent per year, depending upon asset class mix. The least expensive forms of active management, no-load mutual funds and wrap fee accounts, typically consume 1.3 percent to 2.5 percent per year of an investor’s returns, while the average passive or index portfolio runs under 0.4 percent per year.
Unfortunately, many investors still maintain large positions in actively managed funds, and the popularity and costs of alternative investments are only increasing. The reality is that due to the heavy fees assessed in managed mutual funds and alternative investments, stockbrokers have a direct disincentive to advise their clients on the downfalls of these investments. Indeed, the InvestmentNews article calls alternative investments a “profitable lifeline.” As long as that is true, many investors will continue to be unaware of the unfavorable features of these products.
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