As with anything investment-related, see my disclaimers. Investing involves risk. My analysis is provided solely for entertainment purposes and in no way do I recommend any course of action. Don't trust random idiots like me on the internet for investing advice. Or for anything else, for that matter.
The other day, a friend asked me to tell them what I thought about one of the options in their workplace 401(k), “The Growth Fund of America” by American Funds, ticker AGTHX. To evaluate an investment option, I generally look at three things: objective, fee structure, and benchmark performance.
What is AGTHX?
AGTHX is an actively managed growth-oriented mutual fund, founded around 1973, and has only 3 out of 5 stars at Morningstar. It has a rough mixture of 9:1, US stocks to non-U.S. stocks, and no bonds. It’s heavily weighted towards large-cap stocks.
AGTHX could be a good investment option if that’s the objectives you’re looking for.
What’s a Front-End Load Fee?
The next place I look at is the fund’s fee structure. Why? Fees have a huge impact on fund returns. The larger the fees, the harder it is for a fund to outperform alternative funds.
The first fee I noticed was a front-end load fee of 5.75%. That means, if you put $100 towards this investment option, you’d immediately have only $94.25 worth of AGTHX. Yikes!
A front-end load is a sales fee paid to whoever connected you with the fund in the first place. Loads are one-time fees, paid each time you buy shares of the fund. That means that every paycheck contribution and every time you switch into the fund from other 401(k) options, you’ll get hit with the fee. This encourages you to stay in the fund longer and not switch to other funds within your 401(k).
What’s an Expense Ratio?
The second fee to look at here is the AGTHX’s expense ratio of 0.64%. The expense ratio is an annual fee baked into the net asset value (NAV), i.e. the daily price of the fund. Unlike a sales load, this fee continuously weighs on the fund performance. Over time, say 30 years in AGTHX’s case, the expense ratio of a sales fee can exceed the effect of the load. After 15 years, AGTHX’s expense ratio crosses over and begins to matter more than the sales load. Here’s a chart that shows the effect, using an annual 8% return:
How about performance?
I’m not 100% against fees. If fund A has a higher expense ratio than B, but A can beat B’s performance by at least as much as the difference between the fees, then A is a clear winner.
The nuance here is that word “always”. Put simply, fees drag on a fund’s performance, and it’s a rare fund manager who can out-perform their benchmark. The group of fund managers who can beat the averages over 5 years is larger than the group who can beat the averages over a decade.
I think there may be fund managers who can consistently beat their benchmark, but I doubt my own ability to find them. You may think that using past performance as an indicator for future results (a.k.a. return chasing) will find these fund managers. If only it were that easy.
How does AGTHX perform against its benchmark?
First, I think it’s a little odd that the Capital Group, the company beyond the American Funds, by default pits AGTHX against the S&P 500 for a benchmark comparison. Why? AGTHX is a “growth” fund, while the S&P 500 includes both growth and value companies. Comparing against the S&P 500 is an apples-to-oranges comparison that favors AGTHX. Here’s a screenshot from their website comparing the two:
It should be noted that you can change the “Index” dropdown to growth benchmarks, but they do little better than the S&P 500 head-to-head with AGTHX.
Here’s a similar graph from Morningstar:
Comparing to VIGAX
Instead of benchmarks, let’s see how AGTHX does against a growth index fund, like VIGAX by Vanguard. VIGAX has no sales load and a 0.05% expense ratio. Using the metric of “performance of a lump $10k investment”, you get a chart that looks like this:
You can see that VIGAX and AGTHX are pretty close, but AGTHX beats VIGAX by 6.6% total return.
BUT, that ignores the 5.75% sales load for AGTHX. Factor that in, and assuming the sales load isn’t applied to dividends, AGTHX outperforms VIGAX by only 0.5% over the last twenty years, or $270.54. I would expect a bigger difference than that.
401(k) Contributions Aren’t Lump Sums
Generally you don’t fund your 401(k) with a lump sum but instead make monthly contributions. What if you were contributing $1,000 every month for the past twenty years, including reinvested dividends without sales load charges on the reinvested dividend. How does that performance look?
This time AGTHX ends up with a balance of only 90.6% of VIGAX, $105,540.44 less. That sales load, hitting every contribution, really drags things down.
Sidebar: Graphs that make you go “Huh?”
As I was writing this post, I started my analysis using Yahoo! Finance’s historical data, and using the “Adjusted Closing Price”, which is supposedly adjusted for dividends, stock splits, etc. What I found is that it’s not at all reliable when looking at historical monthly data. Yahoo! Finances’ data made both VIGAX and VFIAX look far superior to AGTHX. The data was missing some dividends. Here is the Yahoo Finance chart comparison:
I suspect that Google Finance has similar issues and is probably only a NAV comparison, ignoring any reinvested dividends, giving a poor way to compare investments:
Instead of using data from Yahoo!, I ended up screen scraping historical dividend data from another website and doing my own math. There certainly could be errors in my math or in what date I chose to credit the dividend to, but it’s close enough to both the graphs from Morningstar and The Capital Group that it probably is close enough.
By evaluating a 401(k) option on investment objective, fee structure, and benchmark performance, you can understand better your 401(k) investment options.
In analyzing AGTHX, I learned more about sales loads and their relationship to investment returns. I’ve never paid nor want to ever pay a sales load . And now I can see how detrimental they can be on 401(k) options.
As a bonus, I also learned that Yahoo! Finance or Google Finance can’t be trusted when comparing investments.
What do you think of my analysis? Am I missing something or want to see something else? I’d love to hear in the comments.
Update 2.21.2021: For an up close view of getting pushed front-loaded American Funds by Edward Jones, read Impersonal Finances’s post.