Load is defined as the fee or the commission that an investor pays to a
mutual fund at the time of purchasing or redeeming the shares of the
mutual fund.
If the commission is charged when the investor buys the shares, it is
known as a front-end load. On the other hand if the commission is
charged when the investors redeems his shares, it is known as a
back-end load.
Certain funds apply back-end loads only if the shares are redeemed within a specific time period after being bought.
The argument for applying loads on mutual fund transactions is that
these loads will discourage investors from trading frequently in mutual
funds. If the investors quickly move in and out of mutual funds, the
funds have to maintain a high cash position to meet these redemptions,
which in turn decreases the returns of the funds.
Also frequent trading means the expenses of the mutual funds go up.
There are various arguments against load funds:
-The fees that the mutual funds collect as loads are passed on to the
fund brokers. The loads do not provide any incentive for the fund
manager for better performance of the funds. In other words, a load
fund has no reason why its managers should perform better than those of
no-load funds.
-In the last few decades, no difference has been seen in the returns of
load and no-load funds (if the loads are not considered.) When the
loads are considered, the investors of load funds have actually gained
less than the investors of no-load funds.
-When a sales person knows that he is going to get a commission from a
load fund, he tends to push the load fund more - even when the load
funds are performing poorly as compared to no-load funds.
-Loads are understated by mutual funds. If an investor invests $1000 in
a fund with 5% front-end load, the actual investment is only $950. Thus
his actual load is $50 in $950 investment - a 5.26% load.
If an investor is already invested in a load fund, it doesn’t make
sense to exit now. The load has already been paid for. The hold or sell
decision should now only be based on what the investor thinks about the
future performance of the fund. In a few funds, the exit load depends
on the period for which the fund was held. Check the details of the
fund prospectus for more information.
In most cases it is better to avoid load funds; however, investors
should keep one thing in mind. Sometimes load funds can be a better
choice than no-load funds. For example, an investor has a choice of two
classes in a fund - class A and class B. Class A has 3% front-end load
and Class B has no load. The investor however misses the fine print,
which states that Class B has 1% 12b-1 annual fees.
If the fund will make 10% gains each year, its return in Class A (starting with actual amount invested $970) will be
($970) X (1.10) X (1.10) X (1.10) X (1.10) X (1.10) = $1562
For Class B, the returns will be
($1000) X (1.10) X (0.99) X (1.10) X (0.99) X (1.10) X (0.99) X (1.10) X (0.99) X (1.10) X (0.99) = $1532.
Thus the above example is an exception, where in the long run, the load
fund will perform better than the no-load fund (with 12b-1 fees).
The fact is that a no-load fund cannot be considered a true no-load
fund, if it charges fees from it's investors in the form of 12b-1 and
other fees.
