Total Expense Ratio - Explained
What is a Total Expense Ratio?
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Table of ContentsWhat is a Total Expense Ratio?Understanding Operating ExpensesThe Difference Between Total Expense Ratio and Gross Expense RatioLimitations of the Total Expense Ratio
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What is a Total Expense Ratio?
The total expense ratio (TER) measures the total costs associated with managing or running an investment fund, it is also the cost of a fund incurred by an investor. Investment funds such as mutual funds are managed by fund managers or asset management firm, the costs accrued by the manager or firm while operating or managing the investment fund is measured by TER. The total costs of a fund to an investor may be different from that of a manager or investment firm. Purchase cost, redemption fees, audit expenses, and other fees make up the total cost of a fund to an investor. For an asset manager or investment firm, the total costs of managing an investment fund may include management fees, trading fees, legal fees, operational expenses, and legal fees. Here are some crucial things to know about the total expense ratio (TER);
- TER measures the total costs related to managing an investment fund.
- It is also the total cost of an investment to an investor. TER is important to investors because it determines whether an investment is profitable or otherwise given its associated costs.
- Net expense ratio and 'after reimbursement expense ratio' are other terms that have the same meaning as the total expense ratio (TER).
- Asset managers and investment firms also gauge the performance of investment funds by evaluating the TER.
The total expense ratio (TER) is otherwise called the net expense ratio or after reimbursement expense ratio. The total expense ratio (TER) of an investment fund is calculated by dividing the annual cost of the fund by the funds total assets (percentage amount) for a specific year. Below is the formula for calculating TER; TER = Total fund assets/Total fund costs TER takes into account all the costs related to managing or running an investment fund. The total assets of an investment fund and the total costs are important factors when calculating this ratio. The total expense ratio (TER) is an important factor that investors consider before choosing which fund to invest in, this is because the costs related to managing the fund are taken from the fund, thereby affecting the return that investors get. The total expense ratio accounts for all costs or expenses associated with operating an investment fund, the costs are expressed in a percentage and related to the total assets available in the fund. The costs accounted for by the total expense ratio are not reliant on the success or failure of the investment fund, rather, it is simply a description of how much it costs an asset manager to operate or manage the fund.
Understanding Operating Expenses
The operating expenses of an investment fund account for the majority of costs associated with running the fund. Management feeds, brokerage fees, fees paid for audit and accounting and few other expenses make up the operating costs of a fund. A large percentage of TER, when broken down is linked to the operating costs of a fund, operating costs are the outgoing financial obligations related to the fund. Operating expenses are sometimes referred to as the overhead costs of a fund, such costs do not directly influence the performance of the fund, rather, they are outgoing obligations related to fund management.
The Difference Between Total Expense Ratio and Gross Expense Ratio
The total expense ratio (TER) differs from the gross expense ratio (GER), the later measures the total percentage of the mutual funds assets used in operating or managing the fund. The total expense ratio, on the other hand, measures the total costs associated with running the fund.
Limitations of the Total Expense Ratio
There are certain criticisms and arguments against the total expense ratio. The strongest argument is that TER fails to include charges or expenses only paid once by the investment fund. Since TER is designed to account for all the costs associated with the fund in order to help investors know what to expect from the fund, the failure to capture some funds us a limitation.