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Q: Determining Daily Mutual Fund Expense Charge ( Answered 5 out of 5 stars,   1 Comment )
Subject: Determining Daily Mutual Fund Expense Charge
Category: Business and Money > Finance
Asked by: jeffbhc001-ga
List Price: $200.00
Posted: 08 Jun 2004 21:12 PDT
Expires: 08 Jul 2004 21:12 PDT
Question ID: 358471
I am trying to calculate a highly accurate gross-of-fee daily rate of return
for a mutual fund.  I am interested in knowing by how much to adjust the daily
return (based on NAV) to reflect management fees.  Mutual funds charge
a fee to the fund each day for the management of the fund -- the
expense ratio.  How do they (a mutual fund company) determine what the
charge should be for each day in the current period?  I am not
interested in 12b-1 fees, etc.

If the expense ratio as of 12/31/2003 is 1.30% as shown on the annual
report in EDGAR, (On a annual report in the Financial Highlights
section, they show ratios.  One of them is the "Total Operating
Expenses (with reimbursements) as a percent of fund assets" and this
amount equals what Morningstar lists as the expense ratio.)  But the
calculations for the total expenses etc. look like they relate to the
period prior to the statement date, such as the 12 or 6 months before
Dec 31, 2003.  

Going forward, do they use last year's expense ratio to determine the
daily charge for the next days, for example January 5, 2004?  Do the
funds need to file a statement with the SEC about what the charge will
be for the current period?  Like, "We are budgeting a daily fee of
"X%" that will equate to what we believe the total expenses will be
for the coming six months."

I am not interested in figuring the daily equivalent of 1.30% per year.

Does the fund's board of directors determine that the charge will be
"x" and the fund assumes the risk of the "x" not being able to cover

My guess is that the MF boards make a determination based on the
advice of the fund company and fund company assumes the risk.  But I
cannot find any filing at the SEC that says such and such a daily
charge will be made.  Because of this lack of SEC documentation, I
suspect that they charge the most recent ratio or some amount and hope
that it is right.

How is this amount budgeted and disclosed to the public?
Subject: Re: Determining Daily Mutual Fund Expense Charge
Answered By: tox-ga on 17 Jun 2004 19:34 PDT
Rated:5 out of 5 stars
Hi jeffbhc001-ga!

You posed a very interesting question.  This was a tricky area because
it is not regulated by the SEC.  Due to this lack of regulation,
information was especially difficult to find as it seems as though no
one has ever even bothered to ask these questions before you.  Also,
as you might expect, companies are not exactly jumping to explain
their fees to potential customers when not required to.

I have spent quite a bit of time reading about mutual fund expenses
and contacting mutual fund companies in search of an answer for you. 
I have compiled the knowledge I have gained over the past few days for


As you may know, the management fee is only one component of the Total
Operating Expenses (also known as the expense ratio).  It is generally
the largest component, but there are others.  The TOE is the sum of
the following fees:

 - Management fee: the money paid to the fund management company as
compensation for their services
 - 12b-1 fees: money used for advertising and distributing the fund,
this is legally limited to 1.00% of the fund's assets
 - Adminstrative fees: the costs of registering the fund and complying
with securities laws, i.e. creating and distributing the prospectus,
shareholder reports, and trading costs

These costs make up the expense ratio and represent the total of all
costs paid out of the fund.  However, this does not take into account
sales loads and fees paid directly by the investor.

The management fee is generally pretty consistent from day to day,
while the administrative fees, while small, can be somewhat variable.

As you expressed that you were not interested in 12b-1 fees, etc, I
will focus on providing information about the management fee.


Before I start, I should explain that management fees are regulated by
competition and the market, not the SEC.  Thus, the way fees work are
different between funds.

Your first question asks how a mutual fund company determines what the
charge should be for each day in a certain period.  The short answer
is any way they want.  There is no regulation or even a single
industry standard for choosing this.  However, the long answer is a
bit more complicated.  A store could technically charge anything they
wanted for a product, but they would not be around very long! 
Similarly, funds must deliver fees that keep them competitive.

The Investment Advisory Agreement is the contract created at the
inception of the fund which gives the fund a foundation.  (Any changes
to it must be approved by shareholders and signed by the fund's board
of directors)  A mutual fund is special kind of corporation which
holds securities.  Investing in a mutual fund is buying stocks in that
corporation and giving yourself partial ownership of its assets.  The
mutual fund management company (i.e. Goldman Sachs, Morgan Stanley,
etc.) acts as a financial advisor to this company, bound by the
Investment Advisory Agreement.  It is in this document where the
management fee structure is laid out.  Some funds have a stepped-fee
function based on the fund's assets; that is, they may charge 1% on
the first $5 billion, 0.8% on the next $10 billion, 0.5% on the next
$20 billion, etc.  Other funds use mathematical formulas which take
into account the performance of the fund, the assets of the management
company, and other factors.  Really, it is up to mutual fund company
to decide how to set this up.  They need to find a fee structure that
allows their fund to compete with other funds as well as make them a
profit.  This is the domain of investment analysts with years of

I have some examples for you:
Aim Investments (
) uses a staggered fee system which you can read about.  It is on page
14 under 'Expenses', hidden away in the 'Notes' section.
MetaMarkets (
) uses a similar scheme.
Fidelity Investments (
) uses a rather complicated scheme, the details of which are obscured
by this document.  I have linked to the appropriate section which is
also very deeply hidden in the prospectus.  Note that under this
scheme, the management fee will change every month; perhaps more
In these sections I have linked, you may also see some references to
voluntarily waiving fees at any time.  More on that later.

There are a few general trends that relate various aspects of a fund
with its management fee that could give you an idea of how this
decision is made:

- Fund Assets: As fund assets increase, a class's operating expense
ratio decreases.
- Fund Family Assets: As fund family assets increase, a class's
operating expense ratio decreases.
- Number of Funds in a Fund Family: As the number of funds in a fund
family increases, a class's operating expense ratio decreases.
- Fund Category: Equity funds have higher operating expense ratios
than bond funds; specialty funds have higher operating expense ratios
than equity funds; international funds have higher operating expense
ratios than comparable domestic funds.
- Index Funds: Index funds have lower operating expense ratios than other funds. 
- Institutional Funds: Institutional funds and classes have lower
operating expense ratios than other funds and classes.
- Load: Funds or classes with front-end loads have lower operating
expense ratios than no-load funds and classes.
- 12b-1 Fees: Classes that are authorized to have 12b-1 fees have
expense ratios that are higher than other classes by an amount equal
to about 93% of the maximum authorized 12b-1 fee.
- Portfolio Turnover: As portfolio turnover increases, a fund's
operating expense ratio increases.
- Portfolio Holdings: As the number of portfolio holdings increases, a
fund's operating expense ratio increases.
- Multi-Class Funds: Multi-class funds have higher operating expenses
than single class funds.
- Fund Age: Older funds have higher operating expenses than younger funds. 

These descriptions are from an SEC report on trends in management
fees: .  This report
also gives detailed causes for these trends.

In addition, a recent SEC mandate proposal "require directors to
explain in annual reports to shareholders how they determined that
management fee levels were appropriate."  Thus, more insight into the
decision process behind how management fees are arrived at may be
gleaned from future annual reports.

To sum up, a mutual fund company determines what to charge daily in
terms of management fees by what has already been agreed upon, which
is different from fund to fund.  Information about this can be found
in the fund's Prospectus or Statement of Additional Information, but
the investment advisory agreement is the definitive source.  The fund
company originally determines how to structure fees based on a wide
variety of factors as outlined above, but ultimately by the drive to
be competitive and turn a profit.  No two fund companies use the same
system to determine a management fee scheme, so I'm afraid I cannot be
any more specific than this.

There are some additional complications which makes predicting a given
day's management fee a bit harder than simply applying the rules in a
contract.  Somtimes, a fund manager will choose to waive or reimburse
the management fees for a short period, in order to lower costs and
boost performance.  This way, a fund may be able to remain
competitive.  Some management companies promise to keep total expenses
below a certain level, and so this may be their only option to honor
that, since other costs are uncontrollable.  When such a promise is
made, it is the management company which assumes the risk of not being
able to cover expenses.  Depending on the company and the contract,
the company could choose to end their fee waver at any time, or be
reimbursed at a later time for the fees they gave up which would
shortly and unpredictably increase fees at some point.

For a general fund, the management fee for the future could not be
perfectly predicted from past year's expense ratios for a number of
reasons.  Firstly, the management fee might be artificially raised or
lowered as I explained.  Secondly, if the fee structure is stepped,
then the management fees could change if the assets of the fund pass a
certain milestone; for example, a hypothetical fund in 2002 may be
worth $4.5 billion and in this case the management fee would be 1%,
but the next year, it may be worth $5.5 billion, and the management
fee would be different for the last $500 million.  Other companies use
even more complicated fee structures which are almost guarunteed to
change from year to year.

Barring any situations such as these, the management fee will
generally be consistent day-to-day and predictable using information
found in the fund's literature.  This would likely require finding the
daily equivalent to a certain number.  While this is true of the
management fee, it can get even hairier when one considers the expense
ratio in its entirety.


I realize that you are primarily interested in the management fee, but
other ongoing fees can makes the expense ratio more unpredictable from
day to day.  While the management fees have a tendency to reamin
constant from day to day, this is not true of administrative fees. 
While some companies regulate administrative fees via a contract in a
similar manner as management fees, they are not required to do so. 
Administrative fees can change daily.  However, as a result of the
routine nature of administrative tasks, they are usually pretty
consistent.  They are also usually very small compared to other fees
and so, their variability doesn't have as much of an impact on the
overall expense ratio.

Fund companies have a strong incentive to keep administrative fees to
a minimum.  It is money paid out of the fund that does not go to them,
and this has an impact on their profit.  Secondly, high administrative
fees inflate the expense ratio, reducing the fund's competitiveness. 
Why willingly make your product more expensive if you aren't recieving
that extra money?  This is why regulation of administrative fees is

The SEC does not require fund companies to publish expense ratios on a
daily basis or provide planned future expenses.  The mutual fund
companies I contacted do not do this voluntarily either, as they
claimed it would be far too much work.  All that is required of them
is a semi-annual report which expresses the expenses of the past six
months as a ratio of the fund's assets; this is available on EDGAR. 
They also require the past year's expense ratio to be pulished in the
fund's prospectus which must also be publicly available.  More
detailed information can be found in the fund's Statement of
Additional Information, which must be provided to investors upon

So, the answer to your second question is no, they generally do not
use last year's expense ratio to determind the daily charge for the
next days.  Neither are they required to file a statement with the SEC
about daily expense ratios (rather, they must file a statement about
these expenses over a 6 or 12 month period).


To answer your last question, mutual fund companies are not required
to announce their future daily charges in advance and therefore are
not required to budget it.  Decisions about waiving fees, or changing
the administrative costs can be made daily.  Fund companies are also
not required to disclose their daily charges.  They are only required
to disclose the cumulative expenses over 6/12 months.


I am sorry that my answer is pessimistic about the prospects of
adjusting a fund's NAV to find its gross-of-fee return rate.  This is
just the way the fund market is.  It seems to be that it would be a
very difficult task, unless a fund had a very simple fee structure,
(perhaps with a guarunteed daily fee), or if a management company were
willing to provide daily updates of expenses charged.  I'm not sure
how feasible finding the gross return rate by taking the past day's
assets, adjusting for change in the assets' market value over the day,
and subtracting the final NAV is, but it may warrant looking into.

I hope I have addressed all your questions, although I understand that
all this information may have opened new questions.  If you would like
elaboration on any part of what I have presented, please feel free to
ask for clarification before closing and rating my answer so that I
may best help you.


Request for Answer Clarification by jeffbhc001-ga on 18 Jun 2004 07:56 PDT
Interesting.  We have evaluated the expense ratios of several funds. 
For many (not all) the expense ratios have not changed for 6 years,
which suggests they are "managed".  Based on your research, we could
conclude this stability is the results of any or all of a cap set on
expense ratios and the management company accepts the risks of the cap
being adequate to cover costs, or stable assets and administrative
costs.  The first seems more plausible.  Do you agree?

When you say management fees are paid monthly, does that really mean
calculated monthly with a portion paid each day?  Otherwise, the day
on which those fees are paid will have lower returns.  Any
clarification on this?

For those funds with stable expense ratios over say 6 years, could we
assume that rate charged each day is roughly the same?

Clarification of Answer by tox-ga on 18 Jun 2004 10:03 PDT

I believe you are correct regarding the cause of the stability of the
funds you have evaluated.  In fact, in my research, I came across a
fund which charged a 1% management fee, but also capped total expenses
at 1%, which is essentially the same as guarunteeing a constant
expense ratio at 1%.  It is also possible that a fund with a more
complicated fee structure could keep a consistent rate, assuming that
the fund stayed within the same parameters over several years (i.e.
stable assets and administrative costs, etc., as you mentioned).  This
seems less likely to me than the first possibility.  This could be
settled by checking the prospectus of the fund you are interested in,
but may also require checking the Statement of Additional Information
or the Investment Advisory Agreement.

I'm sorry, I did not mean to say that management fees are always paid
monthly.  I believe you are referring to when I mentioned that under
Fidelity's price structure, the fee could change monthly.  In fact,
management fees are generally accrued daily, but Fidelity recalculates
the daily expense on a monthly basis.  While researching funds, I
found that most accrued and collected fees on a daily basis, although
I did find some which accrued daily, but collected on a monthly basis
in arrears.  This again is up to the fund companies and stipulated by

It is possible that for some funds with stable expense ratios, the
daily fee is consistent.  However, this is not necessarily the case. 
Remember that the expense ratios you read in Morningstar or in an
annual report are averaged over a year.  A cap on fees would only need
to guaruntee that the final, averaged expense ratio of a year is a
certain rate.  A company could collect different fees from day to day
and then, at a certain point in time, reimburse the fund in the amount
of fees which are in excess of the cap.  This would still cause the
final expense ratio to be the same as if the fund charged the capped
fee every day.

I hope I have answered your questions with clarity.  If you are unsure
about anything I have said, please feel free to ask.


Request for Answer Clarification by jeffbhc001-ga on 18 Jun 2004 11:15 PDT
What portion of the funds you looked at charged fees to the fund
monthly and where is this disclosed?  I realize you did not do an
exhaustive survey, but wast it 1 out of 3 or 1 out five, etc.,  that
charged the fees monthly.

Clarification of Answer by tox-ga on 18 Jun 2004 12:56 PDT
From my reading, it seemed like the industry standard was to charge
fees daily.  However, among the funds I closely examined, the
proportion which charged monthly approached almost a half.  If I had
to venture a guess, I would think that in general, perhaps about 1 to
2 out of 5 stocks charge on a monthly basis.

This is usually disclosed in the Propsectus.  Be warned that it may be
hidden deeply inside, perhaps in the ending notes.  Also, the
prospectus is meant to be abbreviation, so this tidbit could be in the
Statement of Additional Information or Investment Advisory Agreement.

Clarification of Answer by tox-ga on 18 Jun 2004 15:13 PDT
Hi jeffbhc001-ga!

Many thanks for your generous compliments, rating, and tip.  It is
certainly appreciated.  I'm glad your experience with Google Answers
was a positive one.

In the future, you are welcome to request me specifically.  (Like this
client has done, as an example: )  It would be
my pleasure to work with you again.

jeffbhc001-ga rated this answer:5 out of 5 stars and gave an additional tip of: $75.00
This answer was just great!  It showed research, good thinking, and
honesty.  I am extremely pleased with this exchange of ideas and will
be using this service again.  I do hope I get the same researcher --
he/she has my respect and gratitude.  THANKS!  PS Tox is perhaps
justification for human cloning

Subject: Look in the annual report
From: birdeye-ga on 09 Jun 2004 07:33 PDT
Check the annual report of the fund you are interested in.  I have one
of mine in my hand, and on the page titled: Statement of Operations,
there is a listing of all the expenses accrued by the fund.

In the notes section it refers to is the following:

...the management fee is computed at the annual rate of .25 of 1% of
the value of the fund's average daily net assets, and is payable

That should give you a good start.  Find an annual report, it may
provide the answers you are looking for.

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