The expense ratio represents some of the direct costs that will be assessed by your mutual fund manager each year. These are expressed on a percentage basis of every dollar that you have invested in the fund. Usually, they are assessed each quarter of the year (at one-fourth of the annual amount), and you will see them in your quarterly report.
It is important to pay attention to expense ratios because these reduce your returns from that fund in every single year. They are so important that the Securities and Exchange Commission requires that mutual funds publish the ratios in the materials that they send to you.
Expense ratios are one of the few things you can actually control in your fund. You can’t control which stocks your fund invests in, nor how much it invests in each stock. You can’t control how well a fund’s investments performs. But you can decide to pick a mutual fund with a low expense ratio. In other words, you can decide to invest in funds with low expense ratios – or, in plain English, funds that don’t waste money.
However, there is no guarantee that a low-expense-ratio fund will perform better than a high-ratio fund. In theory, a high-expense fund is spending more money on research, and will therefore produce better results. But effort does not always equal performance in the investing world. So while a high-expense fund might perform better, you can be sure that a low-expense fund will cost less. And you can take that difference to the bank, year after year after year. The differences of 1%-2% per year can add up over a long period of time.
Finding low-expense ratio funds is easy. Just go online to a trusted resource, like Motley Fool or Bloomberg. Or, if you don’t feel like taking the time, just select funds from Fidelity. These are typically at the low end of the scale, if not the actual lowest in every category.