High fees can eat away at your portfolio returns, but the good news is that investing is becoming cheaper.
Financial services companies charge customers a fee for investing their funds, which is usually deducted from their investments. When costs are high, they eat into returns over time.
Consider that over a 20-year period, an investment portfolio that produces a 4% annual return but is priced at a 1% fee could lose almost $30,000 more than a similar portfolio with an annual fee of 0 .25%, according to the US Securities and Exchange Commission.
In fact, costs are falling as wealth management firms compete for clients’ dollars. Equity fund expense ratios averaged 1.04% in 1996, according to the Investment Company Institute. They plummeted to an average of 0.5% in 2020.
“In the mutual fund market, where products compete to be bought, costs have never been lower. Investors can get a globally diversified portfolio for less than 10 basis points, which is fantastic,” said Micah Hauptman, director of investor protection at the Consumers’ Association of America. said.
Why is it cheaper to invest?
Some experts believe a key catalyst behind this trend is heightened awareness among individual investors, prompting many to become more price conscious.
“Consumers have learned that costs are directly or inversely correlated with returns,” said Ron A. Rhoades, director of the Personal Financial Planning Program at Western Kentucky University. “Basically, higher fees and costs equate to lower returns. A lot of academic evidence backs this up.”
Rhoades said investment costs have also fallen over time due to the rise of fiduciary investment advisors, who are obligated to act in the best interests of their clients and aim to keep expenses low, and online robo-advisors who Financial services offer a cheaper rate.
“This has put a lot of pressure on the wealth management industry to come up with cheaper solutions because that’s what investment advisors are asking for,” Rhoades said.
Increased competition, particularly in the ETF market and between outright mutual funds, has also contributed to lower investment costs, Hauptman said.
An additional catalyst for falling capital costs, Rhodes added, are Labor Department mandates that went into effect more than a decade ago.
These rules require retirement plan providers to disclose fees to plan sponsors and require employers to issue fee disclosures to individuals who participate in workplace retirement plans. This made savers pay more attention to costs, Rhoades said.
How investors can watch their spending
Investors need to value their fees in relation to the value they get from their investments, Hauptman said. Most financial advisors charge clients based on how much money they manage for them, which is typically around 1% of assets. Some financial advisors may charge a flat fee or billed by the hour.
“It’s important that investors don’t look at just one piece of the investment puzzle as getting products and services,” Hauptman said. “They need to consider all of the costs they pay because all of the costs will eventually erode their overall returns over time.”
Sheryl Garrett, a certified financial planner and founder of the Garrett Planning Network, advised newer investors trading single securities to do so minimally and keep the rest of their investments “plain vanilla” to reduce the amount of recurring transaction costs.
Here are three steps to keep investment fees in check:
Check your expense ratios: Make comparison purchases while browsing mutual funds and ETFs. Investment fees have fallen significantly over the past few decades, but fund managers may charge more for diversified offerings, such as B. Strategies focused on alternative investments.
Watch out for other costs: When investing through a brokerage account, beware of transaction fees, which can be very painful for the most active investors. Some firms also charge fees for broker-assisted transactions. In a 401(k) plan, you could incur costs in the form of administration costs – and these are in addition to the fund fees you pay.
Find out how your financial advisor gets paid: Ask in advance if your financial advisor is a fiduciary. Does your advisor charge by assets under management or does he offer a flat fee? Does he get commissions for products he recommends to you? Get these details in writing and make sure you understand them before hiring this professional.
Ultimately, the best investment for individuals is to educate themselves about their finances, Garrett said.