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People who buy shares of mutual funds and similar types of investments have to pay fund management fees on an annual basis. Fund management fees cover the salary of the fund manager who presides over the fund, and typically amount to about 1 percent of each shareholder's investment holdings. The fees are usually bundled together with other administrative fees as part of the overall annual charge known as the fund's expense ratio. Expense ratios are sometimes referred to as fund management fees, even though the management fee is just one part of the expense ratio.
Mutual funds are comprised of a variety of different securities that are bought and sold on the fund's behalf by the fund manager. Each fund has a stated strategy, such as long-term growth or short-term income, and the fund manager must buy securities that help the fund achieve its aims. Fund managers are experienced investment professionals who attempt to predict price movements in the market. The fund manager attempts to sell existing securities held in the fund for profit, and uses the sale proceeds to buy new securities at a discount. In order to attract top fund managers investment firms have to pay high salaries, which means the top funds often charge above average fund management fees.
Exchange Traded Funds (ETFs), like mutual funds, are a type of investment comprised of a variety of securities. ETFs are traded like stocks, and typically track a particular stock index. An ETF holds the same securities as the index that it tracks, which means if it uses the Standard and Poor's 500 as an index, the ETF only contains stocks issued by companies listed on that index. Fund managers process securities trades to ensure the fund's holdings remain in line with the securities listed on the related index, but fund managers have no decision making responsibilities over securities purchases. Consequently, fund management fees on ETFs are lower than on mutual funds due to the manager's limited role.
Administrative fees, along with fund management fees, that form the fund's expense ratio include marketing and advertising costs. Every fund has to regularly produce a fund prospectus detailing its holdings, and administrative fees cover the production and distribution of all fund-related literature. Costs related to dividend distributions and correspondence with shareholders are also part of the expense ratio. Investors can avoid both the fund management fees and administrative costs of owning a fund by using a discount broker to buy individual stocks and bonds rather than buying shares of a fund. People who buy their own securities directly have to manage their investments, but people with broad knowledge of the market often prefer to manage their own assets rather than pay fund fees.
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