401k, 403b, 457, Finance, Retirement

Things you don’t know about zero fees funds!

Blog 6 picture

Sources: Morningstar.com, Fidelity.com, Vanguard.com, Blackrock.com

Fidelity attracted more than $1 Billion to two recently launched zero-fee funds (funds which have zero expense ratio) for domestic and international stock markets. Funds with low or zero fees are the latest fad in the asset management industry that has drawn a lot of attention from the media. Don’t get me wrong!  It’s a good thing that there is a focus on reduction in fees and we should all thank Vanguard founder, Jack Bogle, for that.  Why should an investor pay Asset Managers fees for merely mimicking a major index like S&P 500?


But the important thing to keep in mind is what’s in it for you and how much do you as an investor earns in net return after adjusting for all kind of fees.  Low or zero fee funds are good investment options provided their returns net of fees is higher than that of their peers.

Employees investing through their 401k/403b account for retirement have multiple choices within their employer plan which is honestly nerve-racking. Investors like to evaluate all factors and are rightfully concerned about the higher fee funds in the investment line-up.  Fees are easy to understand and compare, hence most investors are attracted towards low fee index funds. Major asset managers have been engaged in “endless” fee wars, with Charles Schwab, Vanguard and Blackrock’s iShares ETF families constantly reducing management fees on index and ETF funds. Fidelity’s new zero fee funds appear to be the latest arsenal in this war.  Not only will the investors not pay any fees but also there is also no minimum investment size required, which translates to no barriers or nuisance fees. That sounds great.  Isn’t it?  This move by Fidelity makes it cheaper to invest in a well-diversified mutual fund.  On top of that, Fidelity also plans to lower fees on other mutual funds by an average of 35 percent and will introduce no minimum investment criteria for the low fee funds as well.

Let’s understand the overall impact of fees on your investment portfolio. A 5 basis points (0.05%) reduction i.e. going from 0.05% to zero means a saving of $5 on a $10,000 investment. If the returns of a similar fund in the same category is higher by 0.05% or 5 basis points, the net return to you is the same. The above chart shows you net returns after fees from major asset managers. If you focus on the Equity Mid-cap funds (blue bars), Blackrock’s net return is higher than peers by 3.84% despite higher fees in the category. As an investor, you could have potentially missed an opportunity to earn an excess return of 3.84%if the decision to invest (or not) was based purely on fees.  In order to make the comparison easier, we have reduced the fees from the gross return to reflect net returns to investors.  Similarly, in the Equity Small-cap category, Fidelity is an outperformer, while Vanguard is the best performing fund in the International category.

Due to constant coverage of low or zero fee funds in the media, the common investor tends to focus less on other important aspects of the funds and overall portfolio. They often forget to evaluate these investments on other more important aspects such as returns, risks, portfolio diversification, and the management team. So you think you made the right choice by investing in zero fee funds. How about taking more of a holistic approach to evaluating investment options? Is your portfolio diversified? What’s your return net of fees?  These are the questions you should be asking yourself.

Our free app, Plootus, provides unbiased advice and assists you in choosing the right investment options from your 401k/403b plan.  We don’t sell you any funds but assist you in optimizing your 401k/403b portfolio.  We are on a mission to democratize financial planning and make it available to everyone!  Plootus (available on Apple and Android app stores) will not only choose the best performers to suit your retirement needs but will also help you to decide how much to invest in the various such as equity or bond funds available to you. Our algorithm first estimates how much money you will need for your retirement period.  Sounds like a no-brainer, right?

Feel free to use the comments section and we will be happy to answer any questions you may have.

That’s it from our end. Until next time!

Author: 1) Sunil Gangwani, Co-Founder, Plootus

2) Pranay Loya, Financial analyst, Plootus







401k, 403b, 457, Finance, Retirement

Bonds as a choice of investment for your 401k/403b/457 plan?

Bonds as an investment choice

Bonds are debt obligations of the issuer to return the principal amount with interest to the investor. Bonds are issued by both domestic and foreign entities such as a government or corporation.  So it can be differentiated based on geographies, just like equities. Refer to our previous blog on equity Equity Funds (right to ownership). But the more common differentiator for bonds is time horizon or duration.

The first differentiator is the Time Horizon or Duration

The bond or debt duration varies from 1 day to 30 years. There are different ways to slice and dice bonds but let’s focus on the most common factors. Long-term bonds are usually 10 or more years in duration, Medium-term 3-10 years and Short-term 1 day to 3 years. The choice of a term depends on the investment horizon. The longer the term, the higher the interest rate. You, as an investor will be subject to a higher risk for a longer period of time. If you are looking for very liquid investment, you should pick Money Market funds.  The maturity of the securities part of money market funds is usually under 13 months and mostly consists of highly rated treasury securities of shorter duration.

Bonds duration

The second way to differentiate is based on Bond Issuer or the Entity taking the loan

Bond is a huge market and it’s even bigger than even equity markets. The three main issuers of bonds in the US are US Treasury, US Municipalities and Corporates/Businesses. In addition to these 3, there are bonds backed by your mortgage, cars and other kinds of assets commonly known as Asset-backed securities. The mortgage-backed securities are well known and we all have experienced, the painful recovery after the last market crash which started as a result of sub-prime mortgage-backed securities.  Treasury is the biggest player in US bond market and comprises of 35% or $14 Trillion of the total bond market. It’s considered one of the safest investment option. During a market turmoil or shock, the money usually flows from equities to the Treasury securities. It’s backed by US government and is very popular both with domestic and foreign investors.

Bonds issuer

Source: Wikipedia.com

US government issues various securities and it differs based on duration or tenure. The short-term usually becomes part of Money market fund which we discussed before.

Municipal bonds are issued by various municipalities in the US such as state, city or town to fund various projects making roads, building a new school etc. But keep in mind, all the municipalities are not the alike. They have different default risk or credit rating and you should understand the risk before investing. Why do people want to invest in municipal bonds? The main reason is tax incentive. Usually, no federal taxes are payable on interest from municipal bonds. In certain cases, issuing state also exempt residents from paying state taxes. But if you don’t live in the issuing state you may still have to pay the state tax.

The third way to dissect is Credit quality. It’s comparable to your credit score.  The better the rating or score, the lower the issuer has to pay interest

Another key differentiator is underlying risk or quality.  The Credit Rating agencies such as Moody’s, S&P and Fitch (rating agencies) have simplified the work for an average investor assuming these agencies did a thorough job. They assign ratings for bonds issued by US Treasury, Corporates or Municipalities and give them a “Letter Grade” that can be compared to the grades you used to get in school and college. The only difference is these ratings are more elaborate. The rating agencies have created their own hierarchy such as AAA, AA+, AA, AA-, BBB- BB, C and so on (Refer the chart below). Anything equal or better than BBB- is considered Investment grade (worth investing) and lower than that are called Junk bonds or High Yield (not high in quality) which means they provide higher returns as the Risk is higher. Corporates issue bonds or debt instruments for building a new factory, buying new plant and equipment, business expansion, or for additional liquidity. As an investor what you want to know is when the time comes for repayment of debt and interest, the corporate should have enough resources to meet their obligations.

Bonds credit rating

Source: Marketdeal.com

 Inflation-Linked bonds commonly known as TIPS (Treasury Inflation-Linked Securities)

One of the main concerns of an investor is how the inflation erodes the value of money over time. Here enter inflation-protected securities known as TIPS (Treasury Inflation-protected securities). The underlying purpose of these bonds is to keep the purchasing power of the money intact. Inflation reduces the value of money over time. Your grandfather could buy more goods and services for $1000 dollars 50 years ago than what you can buy today with the same $1000 dollars. If your money is lying idle in a bank account and not earning any interest, it’s actually deprecating by the rate of inflation in the economy.  So the purpose of TIPS is to hedge against inflation. It’s a good idea to allocate certain retirement assets to TIPS to maintain your standard of living during retirement.  TIPS are issued for 5, 10 and 30-year duration.

In the list of funds offered in 401k, 403b or 457 plans, you will find bond funds offering various time horizons, issuers, geographies or quality of underlying securities. It is a good idea to include TIPS in the diversified plan if that option is available. To create a diversified portfolio some people hire a financial advisor, who may charge 0.25% to 2% of total assets, as fees.

Plootus does it for Free. You may ask why? We are on a mission to democratize financial planning. Our app Plootus (available on Apple and Android) will not only choose the best performers to suit your retirement needs but will also help you to decide how much to invest in the various options available to you. Our algorithm first estimates how much money you will need for your retirement period.  Sounds like a no-brainer.

That’s it for today. We so far covered 2:1 principle for retirement, Bitcoin as an option for retirement, types of Equity funds & Bonds. We will dig deeper into Target dated funds next time.

Feel free to use the comments section and we will be happy to answer any questions you have.

Until next time!


Author: Sunil Gangwani, Co-Founder, Plootus

http://www.Plootus.com: 10 minutes could add 50 thousand dollars or more to your retirement account!

Download on Apple Store: Plootus

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