Many seasoned investors have a significant portion of their portfolios in fixed income type investments. In the past, holding mutual funds was a simple way to get diversity in fixed income holdings like bonds. But bond yields have been dropping steadily over the past years, as shown in the chart below showing 10 year bond yields over the past decade:
As bond yields drop, those management fees and management expense ratios (MERs) are eating a larger and larger portion of the fixed income earnings. If you were earning 5% ten yeas ago and had a 2% MER, the fund company was taking 40% of your earnings on bonds hldings. Today with yields below 2%, the management fees take all the earnings and you may pay the fund company more than your earnings, meaning you would have been better off holding cash.
Even in cash you would be losing buying power each year since inflation is rarely below 1.5% as the Statistics Canada chart below shows.
The take-away? Buyer beware on bond mutual funds. Investor's Group bond funds like Investors Canadian Bond charge 1.81% (ouch!), which eats up most of a bond portfolio yield. A TD Canadian Bond Index eSeries fund has a MER of only 0.51% (better..), putting significantly more of the earnings into your pocket. An ETF like Vanguard's Canadian Aggregate Bond Index ETF (VAB) has a lower MER of only 0.2% (nice!). When the benchmark yield is only 2.3% (January 2013 Barclays Global Aggregate Canadian Float Adjusted Bond Index), that MER is a big deal.
Look for some other ideas on fixed income strategies in upcoming posts.
More to ponder - Investors Group may hit you with over 5% deferred sales charge if you want your money back in the first year, and TD can ding you a 2% trading charge if you move money in 30 days. When you buy an ETF you have a trading fee which can be a high or low percentage depending on the fee and the amount invested. These should not be big factors for long term investors, and long term savings.