Mirror funds, also known as "mirror portfolios" or "replica funds," are investment vehicles designed to copy the performance of an existing investment strategy or benchmark index. These funds aim to replicate the investment holdings and returns of a specific fund or index. They provide investors a way to achieve similar results without directly investing in underlying assets. Moreover, policyholders can avoid the obligatory minimum investment threshold by using the funds through mirror funds of an insurance company.
Mirror Fund Example
For example, Friends Provident International (FPI) is a well-known international life insurance and financial services company that provides various products and services to customers worldwide. It was a subsidiary of the Aviva Group, one of the world's top insurance and financial services companies. Friends Provident International manages a group of funds known as mirror funds.' It has formed agreements with global investment institutions, allowing access to painstakingly selected underlying funds based on performance and investment knowledge. FPI has built a mirror fund with each established fund link that only invests in the selected underlying fund. This mirror fund often keeps a fractionally small amount in cash balance.
Mirror Fund Explained
Variable universal life insurance (VUL) products sometimes include mirror funds. Variable life insurance is a permanent policy with a distinct investment account. This account includes various financial vehicles, such as bonds, stocks, money market funds, and equity funds. This investment account's tax-deferred performance can potentially increase or decrease the death benefit. Policyholder premiums cover administrative costs and the management of the investment account. Typically, a full medical underwriting process is required.
In many cases, mirror funds will make up the investing portion of this life insurance category. The insurance company establishes these funds and aims to mimic or reproduce the investments and returns of the mutual funds, such as those managed by J.P. Morgan, BlackRock, Vanguard, and others.
While all mutual funds include fees and costs that can lower overall annual returns, mirror funds typically have higher fees than underlying funds. Furthermore, these policies often provide a restricted variety of funds for the investment component, usually from three to five options.
How Does a Mirror Fund Work
Mirror funds achieve their objective by closely replicating the composition and performance of a target index or portfolio. They accomplish this by holding similar securities in the same proportions as the benchmark. For example, if the target index is the S&P 500, a mirror fund would hold the same stocks in the same weights as the S&P 500.
Mirror funds use a variety of strategies to keep their performance on track with the target index.
These strategies include:
Full Replication: The fund holds all the stocks in the target index, allowing near-perfect performance alignment with the index.
Sampling Replication: The fund holds a representative portion of the index's securities. This strategy is usually used when the target index contains many securities, making it impracticable to hold them all.
Synthetic Replication: The fund employs financial derivatives such as swaps and options to replicate the index's performance. This method is more complicated and involves counterparty risk, but it can be useful for tracking less accessible indices.
Benefits of a Mirror Fund
Diversification: Mirror funds allow investors to gain exposure to a diversified portfolio without buying all the underlying securities individually.
Lower costs: Because mirror funds seek to replicate existing portfolios, they often have lower management fees than actively managed funds.
Transparency: Investors know what they are investing in since the mirror fund's holdings are linked with a publicly shared index or portfolio.
Ease of Access: Mirror funds allow investors to gain access to specific markets, sectors, or strategies without having to research and purchase individual securities.
The Downside of Mirror Fund
Regular mutual funds often charge 1.5% to 2% to manage your money. If you choose a mirror fund, your costs will almost always be slightly higher. If you obtain a mirror fund from an insurance company, you may be required to pay a broker or a money expert in addition to those fees. This additional cost reduces the money you earn from the mirror fund.
Furthermore, mirror funds typically underperform the real funds they're copying. Because mirror funds are duplicates of real funds, they must change their holdings afterward. As a result, the difference in earnings between the real fund and the mirror fund grows larger the longer you hold your investment.
Using mirror funds allows you to invest great funds from other companies. However, you could generally invest in the same great funds. The only drawback is that you may need to invest a specific amount of money in some of these funds. Additionally, if you want to invest independently, you'll need a brokerage account with a firm like TD Ameritrade or Schwab.
All insurance companies do not use mirror funds. Those who do not use them provide a list of 50 to 100 acceptable places to invest your money. Because these companies don't use mirror funds, they will only allow you to invest in the safest funds. Some insurance policies may limit how much your money can grow each year, which might increase the amount your beneficiaries receive if you die.
Conclusion
Mirror funds provide investors a convenient and cost-effective way to gain exposure to specific investment strategies or benchmarks. While these products provide advantages such as diversification and lower costs, investors should be aware of the possible tracking inaccuracy and associated risks. Before investing in mirror funds, extensive research and consideration of individual financial goals is necessary.
