Accounting For Trading Costs
That means consumers will still be in the dark about the true costs of their retirement plans, largely because of a lack of transparency in the mutual fund industry.
“What the Department of Labor rule doesn’t do is disclose trading costs,” Hiltonsmith said.
According to Hiltonsmith’s report, median total expense ratios of mutual funds in 401(k)s came out to be 1.27 percent of total assets under management in 2010; annual trading costs average out to be another 1.2 percent. That’s almost 2.5 percent in costs.
In context, that means that average net returns of mutual funds of around 7 percent are in reality 4.5 percent when both the expense ratios and the trading costs associated with mutual funds are taken into consideration, according to the Demos report.
Vanguard Sets An Example
The situation is worse in smaller 401(k) plans, according to Hiltonsmith.
Because of their relatively small size, they’re unable to keep operating expenses as low as larger plans that benefit from larger economies of scale.
Although the Demos report hammers the mutual fund industry for its hidden fees, Hiltonsmith made an exception for Vanguard, which he said offered a much better deal for investors than typical mutual fund companies.
“Vanguard is a great provider because they value investors and because they keep their trading costs low,” he said.
According to Hiltonsmith, America’s retirement system is in need of a complete overhaul. What the country ought to have, he argued, is a new low-cost retirement alternative that pools assets and lowers exposure to market shocks.
“ETFs would help with the fees,” he said. “But you still would have market risk.”