Excerpted from Bogle on Mutual Funds by John C. Bogle, page 201

Taking into account all operating expenses incurred by the fund - but excluding the impact of sales loads - Figure 10-1 shows the profile of expense ratios in stock, bond, and money market funds. As you can see, there is an ample selection of funds with low expense ratios in each category. The availability of funds with high expenses is rife, especially in the equity fund arena. The need to maximize current yield (as distinct from total return) has helped to constrain fees among bond and money market funds, so it is in these segments that holding costs to rock-bottom levels is most important.

Given the clear financial impact of expenses on mutual fund performance, along with the exponential growth of industry assets, we might expect that fund expense ratios would have declined over the years. However, the reverse has proved true: expense ratios have risen. Figure 10-2 shows the annual expense ratios of common stock mutual funds since 1961.

As the figure shows, the expense ratio of the average stock fund rose from 0.70% of assets in 1961 to 1.50% in 1992, a more than twofold increase. Equity fund assets rose from $23 billion to $463 billion during the period, a 20-fold increase. Crudely applying the higher expense ratio to a much higher asset base, the expenses paid by fund shareholders may have risen by as much as 50-fold.

To a smaller extent, this increase in aggregate expenses may reflect a higher cost (per dollar of fund assets) of mutual fund administrative and recordkeeping services. But to a far greater extent it reflects (1) a plethora of fee rate increases implemented by fund management companies and (2) the formation of new funds with higher management fee structures. The economies of scale in managing money are enormous. For example, holding the expense ratio constant at 1.0%, if an equity fund grows from $50 million to $1 billion the fees paid to the investment adviser would rise from $500,000 to $10 million. It is almost inconceivable that the costs paid by the fund's shareholders to the investment adviser could increase nearly that much. What we are witnessing is not only the failure of managers to share economies of scale with fund shareholders but also their penchant to increase costs to fund investors at an even faster rate than fund asset growth.

YAHOO! FINANCE TIP Yahoo! Finance reports a mutual fund's expense ratio on its profile page. For an example, see VFINX's profile page.