Today’s post on fees could be mistaken for being boring as it’s usually perceived as admin.
However, I can guarantee you that this is probably one of the most important things to focus on as an investor.
When you do your grocery shopping, more likely than not, you’d want to know what it costs you to do your shopping.
You probably even compare the cost of specific items in your basket to other supermarkets nearby or online.
Investing your money is no different. It comes at a cost, which can be considered as the price for a product or service.
This price varies across different platforms and also varies by the type of assets one buys.
For many years, this price of investing has been the subject of much debate and the tide is definitely heading in one direction.
Why is this important?
1. Long Term Horizon
Over a long time, investments in equities for example stand to compound and grow significantly.
The one thing that definitely impacts the return on that investment are costs.
The lower the costs of your investment, the higher the pot of money you have to work for you over time.
You’d think this is pretty common sense, but alot of people don’t pay a great deal of attention to costs.
The other thing to factor in also is the opportunity cost (i.e. missed opportunities) from not investing as cheaply as possible.
2. Trends for the future
There are a bunch of trends that are changing the landscape and appear here to stay:
- There is a considerable push for transparency with a resulting downward pressure on fees (i.e. the price of investing).
- Technology is changing the way alot of Gen X, Gen Y (Millennials) and Gen Z are investing.
- Passive investing is trumping Active investing (where you're paying for a manager) as the latter generally don’t outperform the major indexes.
- Robo advisors are rising to fill the void and offer a hybrid offering that aims to capture the tech savvy, time poor and flexibility seeking generation.
- Rise of Defined Contribution pension schemes now mean that your financial future is entirely in your hands. So what you actually invest needs to work harder for you.
- Financial Independence and Early Retirement is here to stay. More people want to stop worrying about money and have the option to retire earlier.
With many of these trends happening at the same time, it is even more of a reason for you to pay a close attention to your costs.
Pause for a minute and think about what you’re putting your hard earned money into and why.
Achieving goals such as financial independence or saving for education for your children have everything to do with the cost of your investment.
Paying too much could make the difference between you retiring early or having to work another few years.
If you’re like me and investing for your children with possibly decades before they touch the money, then this is something you should be all over.
Why are fees charged on investments?
Keeping it simple, fees are charged for three broad reasons:
- Doing the admin and keep records of your investments i.e. Admin or Account fees (ongoing)
- Managing Your Money i.e. Management or Fund fees (ongoing)
- Other fee such as Stamp duty, commission etc. (one-off)
The admin and management fees are particularly important because they are charged annually or quarterly as a percentage of your money.
There is absolutely no problem with paying these fees provided you’re getting alot of value and performance of your money.
However, investments can go up as well as down. Therefore, paying these fees is another way of giving your money away if your assets aren’t working.
This is partly what has led to the rise of passive investing and the demise of the star active manager.
Admin fees in particular is interesting.
Imagine you had a cleaner who asked that you paid them more money the richer you got. What would you say?
What many don’t know is that there are investment platforms that charge a fixed admin fee rather than a percentage.
This little detail alone could transform your financial future if you get it right.
Although most platforms now offer a cap on admin fees per annum, shopping around to invest via a platform with a low cap is important.
How fees stop your money growing
Below is an example of how paying too much in fees can affect your money growing.
Ben and Lucy have £30,000 in their investment accounts, and manage to invest £200 a month.
However, they invest with different platforms and in different funds, resulting in different annual fees charged on their money.
Although both people earn the same gross return of 7%, their net returns differ by 1.05% (1.50% less 0.45%) annually.
This seemingly insignificant difference in fees over 25 years leads to a difference of £52,607 in their investment pots:
|£30,000 investment pot to start||Ben||Lucy|
|Annual return before fees||7%||7%|
|Annual total operating fees charged||1.50%||0.45%|
|Value in 25 years||£239,724||£292,331|
This difference could also possibly arise as a result of Lucy investing in a Passive index fund whilst Ben invested with an Active Manager.
The other point to note is that although Lucy's portfolio has far outperformed Ben's, the key point is that they both were invested in some capacity.
Had both of them purely just kept their cash in a current account, they would have ended up with just £90,000!
So focus on being invested at all times, whilst aiming always to keep costs low.
How to compare costs
The key is to focus on the total “ongoing” costs i.e. the sum of the admin and management fees.
This total cost varies from say, 0.4% for a Passive tracker fund to 1.80% for an Actively managed fund or Investment Trust.
Whenever you're about to invest your money, make a deliberate point of checking these costs.
Are you currently investing your money? Do you know what it's actually costing you?
Do please share this post if you found it useful, and remember, in all things be thankful and Seek Joy.