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Friday, 01/31/2003

Mutual Funds vs. Dividend Reinvestment Programs (DRIPS) (Apples versus Oranges - You make the choice) - January 31, 2003 (Part 1 of 2 Parts)
by Steve Gail

On several occasions I have been asked," Which is better to start, a mutual fund investment account or a Dividend Investment Plan?" This question is like a combination of the chicken or the egg and a comparison of apples to oranges. This will be part one of a two part article making some basic comparisons between the them both.

First, let's examine the mutual fund scenario. You can probably start a program with a automatic bank draft for as little as $50 a month ( e.g. Franklin-Templeton ). You would have the luxury of selecting from hundreds of funds and fund families, with various investment methodologies. There are Growth, Growth and Income, Emerging funds, Balanced funds, Aggressive Growth, International, Telecommunication, Gold, Utility, Blue Chip, Technology, etc. The list is endless. The mutual fund, of course, gives a small investor an opportunity to participate in a diversified portfolio of stocks while only committing a minimum amount of funds. A mutual fund investor can reinvest his dividends back into additional shares as well as having automatic withdrawals taken from his checking or savings account on a consistent bases (i.e. monthly, quarterly, etc.). This type of consistent investment is known as "Dollar-Cost-Averaging", as we learned in the prior article explaining that concept. So on the surface one can assume that the Mutual find functions just like a Dividend Reinvestment Program. However, let us take a more cursory examination of the Mutual Fund and examine some "costs" that the novice investor may not be familiar with. Let's take a look at exhibit A below. We will call this XYZ Mutual fund for the sake of example

Operations: Fees and Expenses for XYZ Large Growth Fund

Front-End Load	Amount invested	 	PCT%
$0		--	24999		5.50	
$25000		--	49999		5.25 	 	 	 	
$50000		--	99999		4.75 	 	 	
$100000		--	249999		3.75
$250000 	--	499999		3.00 	 	 	 	 	
$500000		--	999999		2.00 		 		 	
$1000000	--	and up		0.00		 	 	 	 	 	 	
First, realize that any mutual fund purchase will have a sales charge if it is an "A" share mutual fund. (An "A" share fund has its sales charge taken out upfront and there are no additional charges for selling or moving the investment form one investment or another, where a "B" share would have the sales charge taken out on redemption or sale of the mutual fund shares. For the example above we are comparing "A" shares, but the expenses taken from Net Assets are inherent in both) Deferred Load - N/A No Deferred Load with "class A shares" (a deferred load would be a charge that a mutual fund would charge when you sold the fund. Class" B" shares are defined as deferred or backend loaded funds)

That sales charge will vary based upon the size of purchase (see Exhibit A above). Notice a small investor purchases shares of less then $25,000 will pay a 5.50 front end load/commission/sales charge on every new purchase (there are provisions for sales charge reductions, but that if only for larger purchases that may be bought in the future in the next 13 months - this feature would not be applicable to the small investor.) So, the small mutual fund purchaser of "A" shares will be paying 5.5% commission right from the top (e.g. so only ($94.50 out of every dollar goes to the actual purchase of the mutual share. In addition to that the individual fund itself has a series of sxpenses that it takes out of the Net Asset value of the fund periodically. In addition, these expenses are taken out every year you own the mutual fund (See Exhibit B for a list of these fees below)


12b-1 Total	 	 	0.30%
	12b-1	 		0.05%
	Shareholder Service	0.25%
Management Fee	 		0.63%
Subadvisor Fee           	 N/A

Actual Fees: Management: 0.63%    Distributed: 0.30%
TOTAL Fees:  .93%
If you add up the additional expenses that are taken out of the fund you end up in this example with .93% of additional fees that are taken from the total assets of the fund. Now, if we add the 5.5% sales charge with the 0.93% you have a total of 6.43% taken out of every $1.00. In otherwords, only 93.57% or 0.9357 cents out of every dollar in the first year goes to the actual purchase of the fund shares. Remember, that eventhough the 5.5% sales charge is only charged on the initial purchase, the 0.93% is deducted each and every year that the investor holds on to his fund shares; and additionally, any new purchases that were made during the year are subject to a 5.5% sales charge. Needless to say, so can see that there are several fees that need to be considered and included in the understand of the real pricing of a mutual fund purhase.

Next week will examine Part II of this overview as we compare the fees and expenses that are generally involved in a Dividend Reinvestment Program.

So Until then.....


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