Fees and Performance

• The expense ratio for each fund is deducted from the fund's performance. Thus, if you own a fund with a 2 percent expense ratio and its investments grow by 10 percent in one year, your fund will actually grow 8 percent that year as expenses are deducted.
  
  

The Cost of Management

• Mutual funds can be actively managed or they can be designed to mirror a major index, such as the S&P 500. An S&P 500 index fund owns all stocks in the S&P 500 and is not actively managed, so management fees will not be included in its expense ratio. According to The Motley Fool, unmanaged index funds have historically outperformed managed funds by an average of 2 percent per year. This may be partially due to the fact index funds have lower expenses than most managed funds.
  
  

Fees Add Up

• More expensive managed funds can have expenses ranging from 1.5 percent to over 3 percent per year. While this may not sound like a lot, it can really add up over time. For example, assuming a 10 percent yearly growth rate, if you invested $10,000 into a managed fund with a 2 percent expense ratio, your money would grow to $469,016 after 50 years. If you invested in an index fund with a 0.5 percent expense ratio, it would grow to $934,772 after that same time.
  
  

The 6 Percent Factor

• While index funds outperform managed funds on average, according to a 2000 study performed by Wharton University, 6 percent of all managed funds outperform all other managed and index funds. In other words, there are a handful of skilled fund managers who have been able to make sound investment decisions, causing their funds to outperform all other funds. The study shows that it may be possible to improve your fund's performance by actively researching fund managers based on their fund's past performance. Morningstar is a fund ratings service that allows you to review all mutual funds based on their past one-, three- and five-year performance.