This Fund Charges What?

Until recently, I'd never heard of the Apex Mid Cap Growth (FUND: BMCGX  ) fund. But its whopping expense ratio -- 7.5%! -- quickly got my attention.

Expense ratios are basically the annual fee mutual funds charge their shareholders. They cover assorted costs related to running the funds, including paying the managers who buy and sell the fund's holdings. Passively managed funds, which simply track a given index of stocks, usually have lower overhead costs and charge very small expense ratios. But actively managed funds, run by real human beings, typically charge a 1% expense ratio -- sometimes as high as 2%, which I consider steep.

Expense ratios deserve your attention when you're shopping for a fund, because they'll eat into your return. If the fund's investments rise 12% in a year, and the expense ratio is 2%, you'll only see a 10% return. If you have $10,000 in that fund, $200 of your potential profits will instead go to fees.

When I heard about Apex Mid Cap Growth, I immediately wondered whether that 7.5% ratio was correct. A 7.5% fee would consume an astronomical three-quarters of even the stock market's long-term average return of 10%. As it turns out, that figure's absolutely correct. The fund's top holdings include AgFeed Industries (Nasdaq: FEED  ) , TASER (Nasdaq: TASR  ) , Agrium (NYSE: AGU  ) , and First Solar (Nasdaq: FSLR  ) .

I dug up a 2007 prospectus for the fund, which detailed its fees. While it didn't charge a sales load (hooray!), it did rack up a bunch of other expenses:

Management fees**	1.00%
Distribution and service fee (12b-1)	0.25%
Other expenses	7.24%
Administration fees**	0.20%
Total annual fees currently charged	7.49%

**Fees "voluntarily" waived by management.

Yowza! If its managers hadn't waived a couple of fees, the fund would charge a mammoth 8.69%.

Most of the problem lies in the fund's small size; it has only about $300,000 in assets. The smaller a fund is, the greater impact fixed costs have on its expense ratio. For instance, Apex Mid Cap Growth's 7.5% ratio represents less than $25,000 in costs. For a similar fund with $25 million in assets, those costs would represent an expense ratio of just 0.1%.

Fools are best off steering clear of funds with steep fees. For less expensive but still reliable investments, consider index funds such as SPDRs (AMEX: SPY  ) and the Vanguard S&P 500 (FUND: VFINX  ) fund. Their tiny fees will let you hang on to the lion's share of their returns.