Mutual Fund Share Class Types
How to Choose Which Works for You
Mutual funds present a great opportunity for investment growth, but the number of fund options can be a bit overwhelming. There are several different types of mutual fund share classes, each with its own advantages and disadvantages. The primary differences in share classes are the fees and expenses associated with them.
Choosing the right share class for you depends on whether you need advice from an advisor or you are a do-it-yourself investor, along with how much of your investment dollars you want to spend on your fund management.
Class A Share Funds
Class A mutual fund shares generally have front-end sales charges (also known as a "load"). The load, which is a charge to pay for the services of an investment advisor or other financial professional, is often 5% but can be higher. The load is charged when shares are purchased. For example, if you bought $10,000 of a mutual fund Class A shares, and the "load" is 5%, then you pay $500 as a commission and you will have a total of $9,500 invested in the fund.
A shares are best for investors who plan to invest larger dollar amounts and buy shares infrequently. If the purchase amount is high enough, you may qualify for "breakpoint discounts." Be sure to inquire about these discounts on the load if you plan to purchase additional shares of the fund (or mutual funds within the same fund family).
Class B Share Funds
Unlike the A shares, mutual fund Class B shares are a share class of mutual funds that do not carry front-end sales charges, but instead charge a contingent deferred sales charge (CDSC) or "back-end load." Class B shares also tend to have higher 12b-1 marketing fees than other mutual fund share classes. For example, if an investor purchases mutual fund Class B shares, they will not be charged a front-end load but will instead pay a back-end load if the investor sells shares prior to a stated period, such as seven years, and they may be charged up to 6% to redeem their shares.
Class B shares can eventually exchange into Class A shares after six to eight years. Therefore they may be best for investors who do not have enough to invest to qualify for a break level on the A share, but intend to hold the B shares for an extended period.
Class C Share Funds
Class C share mutual funds charge a "level load" annually, which is usually a 1% 12b-1 fee. This expense never goes away, making C share mutual funds the most expensive for investors who are investing for long periods of time. Because of this, C share funds are most beneficial for brokers and investment advisors, not the individual investor. If your advisor recommends C shares, ask them why they do not recommend A shares or B shares, both of which are better for investment time horizons of more than a few years.
In general, use C shares for short term (less than three years) and use A shares for long term (more than eight years), especially if you can get a break on the front load for making a large purchase. Class B shares can eventually exchange into Class A shares after seven or eight years.
Class D Share Funds
Class D mutual funds are often similar to no-load funds in that they are a mutual fund share class that was created as an alternative to the traditional and more common A share, B share, and C share funds that are either front-load, back-load or level-load, respectively.
One of the most widely held D share mutual funds is PIMCO Real Return D. Compared to PIMCO Real Return A, PIMCO Real Return B and PIMCO Real Return C, the D share class is the only one that does not charge a load and it has the lowest net expense ratio.
Class ADV Share Funds
Class ADV mutual fund shares are only available through an investment advisor, hence the abbreviation "ADV." These funds are typically no load (or what is called "load waived") but can have 12b-1 fees up to 0.50%. If you are working with an investment advisor or other financial professional, ADV shares can be your best option because the expenses are often lower.
Class Inst Share Funds
Inst funds (aka Class I, Class X, Class Y, or Class Z) are generally only available to institutional investors with minimum investment amounts of $25,000 or more. In some cases where investors pool money together, such as 401(k) plans, breakpoints can be met to use the institutional share class funds, which typically have lower expense ratios than other share classes.
Load-waived funds are mutual fund share class alternatives to loaded funds, such as A share class funds. As the name suggests, the mutual fund load is not charged. Typically these funds are offered in 401(k) plans where loaded funds are not an option. Load-waived mutual funds are identified by an "LW" at the end of the fund name and at the end of the ticker symbol.
For example, American Funds Growth Fund of America A (AGTHX), which is an A share fund, has a load-waived option, American Funds Growth Fund of America A LW (AGTHX.LW).
Class R Share Funds
Class R share, or retirement, mutual funds do not have a load but they do have 12b-1 fees that typically range from 0.25% to 0.50%. If your 401(k) only provides Class R shares, your expenses may be higher than if the investment choices included the no-load (or load-waived) version of the same fund.
A common R share fund family seen in 401(k) plans is American Funds, which include funds such as American Funds Growth Fund of America or American Funds Fundamental Investors or American Funds Small Cap World in either R1, R2, R3, or R4 share classes.
It is wise to take advantage of any matching contributions your employer may make when you contribute to your own 401(k). However, be sure to pay attention to the expense ratio, especially if there is no employer match. If that ratio is high, you may choose to open your own account and find a no-load fund.
Choosing DIY or an Advisor
If you are not using an investment advisor, there is no need to invest in a particular share class. You should be using no-load funds, which are not technically a "share class." If you are using a loaded fund and you are DIY, you're needlessly paying fees. One exception to this rule is that a high quality actively managed fund may justify paying a load.
Whether you do it yourself or you use an expert, you are choosing an advisor or money manager of some kind. The question boils down to this: Do I want to hire myself or do I want to hire someone else? If hiring someone else, look for someone who works under a pay structure that promotes greatest virtues of investing—humility, honesty, simplicity, moderation, and frugality. This eliminates most advisors who are paid only by commissions and those who are incentivized by products they sell. You don't need a salesperson—you need an unbiased advisor who is paid by no one else but you.
Skill and knowledge matter less than good judgment. Some investment advisors and financial planners are just as susceptible to damaging emotions and poor judgment as the average investor. However, a good advisor will look at your money logically and help lay out an objective road map to follow so you can reach your future financial goals while living your present life more fully. How much might this be worth to you?
Knowing Where to Look
Choosing "the best" of anything is really a subjective exercise; what works for one person may not be ideal for another. However, when it comes to mutual funds, there are some no-load fund companies that provide the best overall experience for the individual investor.
There is no one-size-fits-all mutual fund family or investment company. Therefore there is no one way to go about finding the best one-stop shop for investing. But you can narrow down the choices by considering what matters most to the wise investor: a wide variety of options, low expense ratios, sound investment philosophies, and experienced management, to name a few signs of good value.
Four of the best no-load fund families include Vanguard Investments, Fidelity Investments, T. Rowe Price, and PIMCO.
PIMCO has the best overall selection of actively managed bond funds. Also, not all of Fidelity's funds are no-load. They also have advisor shares and loaded funds.
How to Research and Find the Best Funds
No matter which share class (or non-share class) you choose, it is wise to do your own research. This is easy to do nowadays, with a good online research tool. Whether you are looking to buy the best no-load mutual funds, review an existing fund, compare and screen different funds, or just learn something new, mutual fund research sites such as Morningstar can be helpful and easy to use. Search filters on their online tools allow you to narrow your search for no-load and load-waived funds.
Average Expense Ratios for Mutual Funds
Before doing your research, you need to have a good idea of what to expect with mutual fund expenses. Here is a breakdown and comparison of average expense ratios for basic fund types:
- Large-Cap Stock Funds: 1.25%
- Mid-Cap Stock Funds: 1.35%
- Small-Cap Stock Funds: 1.40%
- Foreign Stock Funds: 1.50%
- S&P 500 Index Funds: 0.15%
- Bond Funds: 0.90%
These averages are close approximations taken directly from Morningstar's mutual funds software. You can also find similar numbers on most mutual fund research sites.
When investing yourself (directly with a mutual fund company or discount broker) never buy a mutual fund with expense ratios higher than these. Notice that the average expenses change by fund category. The fundamental reason for this is that research costs for portfolio management are higher for certain niche areas, such as small-cap stocks and foreign stocks, where information is not as readily available compared to large domestic companies. Index funds, on the other hand, are passively managed, which keeps costs extremely low.
Index Funds vs. Actively Managed Funds
Over long periods of time, index funds have higher returns than their actively-managed counterparts for several simple reasons.
Index funds, such as the best S&P 500 index funds, are intended to match the holdings (company stocks) and performance of a stock market benchmark, such as the S&P 500. Therefore, there is no need for the intense research and analysis required to actively seek stocks that may do better than others during a given time frame. This passive nature allows for less risk and lower expenses.
Also, active fund managers are human, which means they are susceptible to human emotions and mistakes. By nature, their job is to beat the market, which means they must often take additional risks to obtain the necessary returns. Indexing removes this "manager risk."
Best of all, the cost of managing an index fund is extremely low compared to those funds that are actively engaged in outperforming the averages. Because index fund managers aren't trying to beat the market, they can save you (the investor) more money by curbing management costs and keeping those cost savings invested in the fund.
Many index funds have expense ratios below 0.2%, whereas the average actively managed mutual fund can have expenses of around 1.5% or higher. This means, that on average, an index fund investor can begin each year with a 1.3% head start on actively managed funds. This may not seem like a large advantage, but even a 1% lead on an annual basis creates a significant difference in the long run. Even the best fund managers in the world cannot consistently beat the S&P 500 for more than five years, and a 10-year run of winning against the major market indices is almost unheard of in the investing world.
The Balance does not provide tax, investment, or financial services and advice. The information is being presented without consideration of the investment objectives, risk tolerance or financial circumstances of any specific investor and might not be suitable for all investors. Past performance is not indicative of future results. Investing involves risk including the possible loss of principal.