The So-Called Certainties In Life Seem A Lot Like Mutual Funds

Office, Business, Accountant, Accounting

If the only certainty in life is death and taxes, we have more in common with mutual funds than it appears.

How so?

I came across a disturbing statistic recently: Over the past five years, the average annual tax hit from fund distributions has subtracted 1.8% from mutual fund returns in U.S. equity strategies.1

That is not a typo. 180 basis points sapped from fund returns annually.

While the effect of taxes on returns is not just limited to capital gains, that figure is substantially greater than comparable WisdomTree ETFs. Not to mention, we have a few Funds that never paid a single capital gain during their entire 14+ years of live performance.

How is all this possible?

The first is centered around the active nature of mutual funds and portfolio turnover. With equity markets at new highs, accrued capital losses have likely disappeared, causing more capital gains to be realized.

The second reason highlighted was “outflows from funds.” A mutual fund portfolio manager may need to sell securities to meet the cash outflows of a security. The pandemic selloff in early 2020 likely triggered forced selling that resulted in capital gain distributions to current shareholders at year-end.

So how did ETFs fare in 2020?

An ETF’s unique creation and redemption process, involving an in-kind transfer of securities, makes the investment vehicle substantially more tax efficient than its mutual fund peers.

Ben Johnson of Morningstar recently highlighted a drastically better experience for ETF investors. He wrote that only 5% of 1,400 ETFs run by the 12 largest sponsors (95% of the ETF assets under management [AUM] in the U.S.) will have a year-end taxable distribution in 2020. 2

This equates to only 70 ETFs paying capital gains. Many are tiny—84% of those ETFs had distributions that were less than 1% of the funds’ respective net asset value (NAV) as of November 30, 2020. And 80% were fixed income funds, which carry their own set of factors that differ from the U.S. equity strategies previously mentioned.

1 2 3 4
View single page >> |

Disclaimer: Investors should carefully consider the investment objectives, risks, charges and expenses of the Funds before investing. U.S. investors only: To obtain a prospectus containing this ...

How did you like this article? Let us know so we can better customize your reading experience.


Leave a comment to automatically be entered into our contest to win a free Echo Show.