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Are Overpriced Investment Fees Costing You A Fortune?

29 October 2015 in Investing 101

When was the last time you analyzed how much you’re paying in investment fees? They could be costing you a fortune. Transparency is important when investing, because management fees, operating expenses, commissions and brokerage fees can affect your portfolio’s growth potential.

Ever been lured into a seemingly cheap cable TV promotion that you later regretted because the bill was much higher than you expected? Sneaky activation charges, sales tax, government fees and administration costs can quickly add up.

Investment fees can similarly catch you by surprise – and to a much larger degree – if you don’t do your homework.

The Ugly Side Of Ongoing Fees

Regularly incurred fees and expenses such as financial advisory service fees and account maintenance fees that are charged on a monthly, quarterly or annual basis are referred to as ongoing fees. They can accumulate into large sums over time.

Not only do you give up the money to pay for these fees, you also miss out on the returns you could have earned if that money had stayed in your account in the first place. Plus, the longer your account stays open and the larger it grows, the more ongoing fees you are likely to incur.

Don’t Be Fooled By Seemingly Small Percentages

Let’s say you are ready to invest $100,000 for 20 years with the expectation of a four percent annual return. Three brokers approach you, each with a different annual fee: 0.25 percent, 0.5 percent and 1 percent. Those all seem like small percentages, so the differences shouldn’t be that material, right? Think again.

At the end of 20 years, the difference between Broker Red (0.5 percent annual fee) and Broker Blue (0.25 percent annual fee) is $10,000. You could have tucked that $10,000 away for medical emergencies, a home renovation project or even a luxury cruise for two.

What’s even more pronounced is the $30,000 spread between Broker Blue (0.25 percent annual fee) and Broker Green (1 percent annual fee). Wouldn’t you rather buy a new car or pay for your child’s college tuition instead of handing over all that money just for fees?

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Source: SEC

Watch Out For These Common Investment Fees

If you hire someone to manage your investment portfolio, he or she will typically charge annual investment advisory fees based on the value of your portfolio.

Additionally, if you purchase ETFs or mutual funds, those funds also tend to charge their own management fees, shareholder service expenses and distribution fees (nicknamed 12b-1 fees from the SEC rule that permits them).

These operating expenses are combined and called the expense ratio. They are commonly deducted from a fund’s assets, meaning they get passed down to you and other shareholders. While it is good practice to analyze a fund’s expense ratio before investing, keep in mind there could be other “hidden” costs.

It is helpful to know that outside of 401(k) plans, the average expense ratio for managed open-ended funds is 1.163% and the average total expense ratio for ETFs is 0.636%.1

Expense Ratios Aren’t The Only Costs

It might surprise you that a fund’s transaction related costs such as bid-ask spreads, commissions, market-impact costs, and opportunity costs of buying and selling its holdings could actually make it two to three times more expensive than advertised in its fund expense ratio.2

Funds are not required to reflect transaction costs in their fund expense ratios because of the complexities in estimating and calculating them.

To help protect your money, read a fund’s prospectus carefully. Review the total annual fund operating expenses and examine the fund’s turnover frequency before investing.

A Simple “Real World” Example Of Fees A Typical Investor Pays

Let’s say Jim hires Michael, an investment advisor, to manage his portfolio. Michael purchases several mutual funds and ETFs on Jim’s behalf. Jim isn’t just paying for Michael’s time in the form of an investment advisory fee, he’s also paying for the operating expenses charged by the funds that Michael selects. Jim should carefully consider if Michael is helping him earn higher returns than he would be able to achieve on his own.

Retirement accounts can also charge ongoing fees. Jim’s employer offers a 401(k) plan that he participates in. To his surprise, he discovers that his employer passes the administration costs of the 401(k) plan onto him and his fellow employees. Jim also needs to watch out for the operating expenses of the mutual funds offered in his plan too, which can vary.

The good news for participants like Jim is that the average expense ratio of 401(k) equity mutual funds is declining. It went from 0.58 percent in 2013 to 0.54 percent in 2014.3

Transaction Fees Can Creep Up Too

Fees that are charged when you place an order to buy, sell or exchange an investment are known as transaction fees. The most common example is commissions. Note that higher commissions may apply if you place a trade over the phone with a financial professional versus online through your brokerage’s self-service platform.

Other forms of transaction fees include markups, front-end sales loads and back-end sales loads. Markups occur when a broker-dealer sells you an investment directly from its inventory at a premium to the market price.

Sales loads, in simple terms, are the commissions and marketing expenses that are charged by many mutual funds. Since there are close to eight thousand mutual funds competing for investors’ money, some funds incentivize brokers and investment professionals with commission payments (sales loads) to recommend their funds to investors.4 If an investor purchases a mutual fund with a front-end sales load, this commission is taken out of the investor’s pocket and paid to the broker.

Back-end sales loads, also known as contingent deferred sales load charges (CDSLs), are a fancy way of referring to mutual fund exit fees. These can occur in certain funds if you sell your investment before a pre-determined date (usually seven years). These fees typically decrease each year until the end of penalty period.5

What’s the bottom line? Know where your money is going and look for investment opportunities with minimal fees and expenses.

The Motif Advantage

Now that you understand the significance of investment fees, you should be eager to cut costs.

Investing with Motif has many unique advantages that could save you money. We do not charge any ongoing fees such as management fees, investment advisory fees, or account maintenance fees.

In addition, we offer fractional shares, intraday pricing and low-price commissions – pay just $4.95 for single-stock trades and $9.95 to trade up to 30 stocks within a motif.

Why spend over $250 to trade 30 stocks at other online brokers? You can trade the same names in one basket with Motif Investing for a 96 percent savings.6

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Our construction process is designed to pinpoint the sweet spot of targeted exposure and cost control. It’s your choice to invest directly in a motif, customize one, or build your own. Learn more about our method for constructing motifs.

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Ready to get started? Open a free account with Motif Investing today.

Standard pricing: $9.95 total commission per motif transaction, or pay $4.95 per stock for individual stock transactions. Other fees may apply. For details on fees and commissions, please click here.

1 Barrote, Peter De Sousa, “2013 Lipper’s Quick Guide To OE Fund Expenses,” Thomson Reuters, 2013.
2 Carson Institutional Alliance, “The (True) Cost Of Investing,” Caron Institutional Alliance, 2015.
3 ICI, “401(k) Plan Participants Paid Less in 2014 to Invest in Mutual Funds Than in 2013,” Investment Company Institute, August 19, 2015.
4 Steverman, Ben, “An Investor’s Guide To Fees And Expenses for 2014,” Bloomberg Business, October 8, 2014.
5 Barker, Bill, “Loads,” The Motley Fool, 2015.
6 Based on a survey of 5 online brokers and their listed online market order commission prices as reflected on their websites as of June 10, 2015.

  1. Colleen
    8 Nov at 11:46 pm

    Gosh it’s scary to think I never thought about fees for nearly the first decade I started investing. Fees can really accumulate like crazy if we’re not careful. I think a lot of people have no idea how much they’re really spending.

    PS – anyway you could add an email sharing button? You have so many great posts I want to bookmark and email to my brother. thanks!

    Reply
  2. Jeff
    23 Jan at 9:36 am

    Yikes, those fees really do add up over time! I like Motif Investing exactly for its low cost ability to trade. You guys rock!

    Reply

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