New Research Reveals Trading Costs for Nation’s 30 Top Funds; Data Provides New Impetus for Focus on Passively Invested Index Funds

WASHINGTON, D.C.///January 23, 2004///The mutual fund fees, including expense ratios and 12b-1 expenses, that most investors rely on to shop for funds often seriously understate their “true costs” due to hidden costs that can be a major drag on performance, according to a new study released today by the Zero Alpha Group (ZAG), a nationwide network for eight independent investment advisory firms that manage a total of more than $3.5 billion in assets.

Conducted for ZAG by Edward O'Neal, assistant professor of finance at the Wake Forest University Babcock Graduate School of Management, along with Jason Karceski and Miles Livingston at the University of Florida, the new study examines the “true costs” of owning 30 top domestic equity mutual funds in the United States, representing roughly $750 billion in investor assets through the end of calendar year 2001. The total-cost calculation starts with the expense ratio and adds the cost of trading incurred on portfolio turnover. This cost of trading is a combination of brokerage commissions and implicit bid-ask spreads. The study finds that 43 percent of the funds’ expenses are omitted from their expense ratios and that the transaction costs of some funds exceed 400 percent of their expense ratios.

The ZAG-commissioned study found that three index funds within the 30 most widely held mutual funds had the lowest “true cost” figures – a result of low expense ratios and low trading costs. The inexpensive index funds were the Vanguard Total Stock Index Fund (23.4 basis points), Vanguard 500 Index Fund (21.5 basis points) and Fidelity Spartan U.S. Equity Index Fund (21.5 basis points). At the other end of the spectrum, the Fidelity Fund (161 basis points), Fidelity Contrafund (164 basis points) and Putnam Voyager A Fund (167 basis points) were found to have the highest total costs for investors. For a copy of the full study findings (including a spreadsheet of costs for the top 30 mutual funds, go to the Zero Alpha Group Web site at http://www.zeroalphagroup.com.)

The Zero Alpha Group study notes: “We estimate that investors in the largest funds are incurring 30 basis points per year in total trading costs. These costs are meaningful when compared to reported fund expense ratios. For high-turnover funds, the total trading costs are much higher. Together, the commissions and implicit costs are higher than the published expense ratios for each of the 10 high-turnover funds we studied. In some cases, the total costs of trading are more than double the level of the expense ratio.”

Zero Alpha Group member and Plancorp President Jeff Buckner stated: “These data underscore what many of us have been saying for a long time: Most investors who put their money into actively managed funds will see higher costs than those invested in index funds with low turnover ratios and lower expenses based on their passive management. No one is saying that people should stop buying mutual funds. We completely recognize that these funds are the only practical way for most investors to achieve proper diversification and to manage risks. But better disclosure and education are clearly needed to ensure that investors understand the true costs of owning mutual funds. We are a long way away today from achieving genuine transparency in terms of revealing the real costs associated with these funds.”

Mercer Bullard, president, Fund Democracy and assistant professor of law at the University of Mississippi, added: "This study demonstrates conclusively what consumer groups have argued for years: fund expense ratios are misleading. Expense ratios exclude portfolio transaction costs that on average equal 43 percent of the total expense ratio. In some cases, hidden portfolio transaction costs are five or six times the total expense ratio. Congress should act promptly to ensure that America's investors are provided with full disclosure about funds' portfolio transaction costs."

Zero Alpha Group member and Foster Group President Mark Stadtlander said: “The notion that ‘active management adds risk, is more expensive and has not been shown to deliver results over time’ is not speculation, it is fact. You can’t read this study without seeing that active management piles up all kinds of hidden fees that come right out of the hides of investors. In the vast majority of cases, frequent trading does not contribute to performance and, instead, exposes investors to implicit costs that are unneeded and counterproductive to a long-term goal of capital growth. My advice is simple: If the true fee picture for any financial product isn’t clearly disclosed, go for the lowest cost alternative in terms of an index or asset class fund or funds.”

The funds included in the ZAG study are: Fidelity Magellan Fund, Vanguard 500 Index Fund, American Funds Inv Co America A, American Funds Wash Mutual A, American Funds Growth Fund A, Fidelity Growth & Income Fund, Fidelity Contrafund, American Century Ultra Investor Fund, Janus Fund, Lord Abbett Affiliated A Fund, Fidelity Growth Company Fund, Vanguard Windsor II Fund, Fidelity Blue Chip Growth Fund, Fidelity Equity-Income Fund, American Funds Fundamental Investor Fund A Share, Vanguard Primecap Fund, Fidelity Spartan U.S. Equity Index Fund, Vanguard Windsor Fund, Putnam Voyager Fund A Share, Vanguard Total Stock Index Fund, Fidelity Dividend Growth Fund, Janus Twenty Fund, Fidelity Low-Priced Stock Fund, AXP New Dimensions Fund A Share, Fidelity Fund, Fidelity Equity-Income II Fund, Hartford Advisers HLS IA, Davis NY Venture A Fund, AIM Constellation Fund A Share and Putnam New Opportunities Fund A Share, T. Rowe Price Equity Income Fund.

UNDERSTANDING THE STUDY

The funds included in the Zero Alpha Group study include the top 30 retail domestic equity funds by total net assets, as of December 31, 2001 for which the relevant data could be found. The original source of background information on expense ratio, 12b-1 fees, turnover ratio and net assets is Morningstar Principia Pro Plus January 2002 edition. Average monthly assets were gathered from each fund’s NSAR from 2001 on the SEC’s EDGAR database. Brokerage commissions were gathered from each fund’s 2001 statement of additional information (SAI), also found on the SEC’s EDGAR database. The effective spread was found to be 15 cents per share (or 36 basis points per trade) using the effective spreads on market orders on the NASDAQ and NYSE exchanges documented by a 2001 SEC study on order executions. By applying the 36 basis point per trade implicit cost to the turnover ratios for mutual funds, the implicit trading cost of mutual funds can be estimated.

ABOUT ZERO ALPHA GROUP

Founded in 1995, the Zero Alpha Group, which is not an investment advisory firm itself, as created to serve as a nationwide network for eight independent investment advisory firms that manage a total of more than $3.5 billion in assets. Members of the Group are committed to providing objective, long-term private wealth management solutions to investors, focusing on asset allocation and a structured, quantitative approach to investing. The eight firms in the Zero Alpha Group network share a common philosophy about investing and client service - a commitment to passive, tax-managed investment strategies while providing an independent financial planning solution for investors. Visit ZAG online at http://www.zeroalphagroup.com.

Fund Democracy (http://www.funddemocracy.com) is a 501(c)(3) nonprofit membership organization funded solely by public contributions. It was founded by Mercer Bullard to serve as an information resource for mutual fund shareholders and an advocate for shareholders' rights and interests.

CONTACT: Info@ZeroAlphaGroup.com