Last month I gave you good reason to buy a more affordable car… splashing out on a car or investing in your future
Assuming everyone did that and is now looking to invest the balance – let’s look at how the fees are charged on investments.
For many, investing can be intimidating. We tend to seek out people with more knowledge than we have, to sort out our finances and invest on our behalf. This is perfectly acceptable. But, why is it that people do not know what they pay for this investment advice? Do you walk into a store and buy something without looking at the price? If you do this, and your name is not Whitey Basson, then perhaps we can sit down and discuss your future…
When investing, there are fees charged on your investment. They are broken down as follows:
Initial Advice Fee:
If a financial advisor or broker sells you an investment product, they have the option of charging you up to 3% upfront commission. If you bought a retirement annuity with monthly premium of R1 000, the upfront fee could be as much as R5 000. The problem with a locked-in upfront fee is that you will pay a penalty fee should you decide to change service providers before the retirement annuity matures.
Financial advisor Fee:
A financial advisor can charge you up to a 1% ongoing fee based on the assets they manage for you. Are they doing anything do deserve this fee?
Portfolio/Fund Management Fee:
The underlying investment portfolio is usually managed by a professional. Whether a direct-to-market share portfolio, Unit trust fund or Exchange Traded Funds (ETF), there will be a management fee applicable. This can range from 0,4% (ETF’s) to 2,5%.
Sometimes a fund or portfolio manager charges a performance fee on outperforming a set benchmark.
For our analysis, I will assume that there are no upfront fees charged. The net effect of the various layers of fees means you can pay anything from 1.5% to 4% in fees annually. These fees are taken off your investment monthly. Some fees are taken within the investment so you don’t see it on the statement. In essence your investment needs to return more than the total fee percentage before you start making money.
Let’s assume you invest R5 000 a month for the next 25 years and your investment grows at 7% above inflation. All figures and graphs have been adjusted for inflation to illustrate the value in today’s money. Below is \an illustration of three different fee scales over a 25-year period.
What this illustrates, is that if you managed to start your investment career at a fee around 1.5% instead of 3.5% then you would have saved roughly R430 000 over a 25-year period. Given that you only invest R5 000 a month this is a lot of money. To put this in perspective we show the value of your actual investment taking these fees into consideration.
The effect of compounded interest means that your investment could be roughly R830 000 more should you have chosen the option with lower fees. This indicates that 26% of your investment had been allocated to the higher fee option. From another perspective it means that more than half your contributions to your investment were allocated to fees, given that you made R1.5 million in contributions over the period.
You need to ask yourself what your financial advisor is doing to warrant an ongoing fee. The services that you should expect are:
- Helping you set financial goals and objectives
- Structuring a strategy for your investments based on your risk appetite
- Revisiting and rebalancing your portfolio
- Annual or semi-annual review meetings to ensure your investments and goals stay aligned
- Ongoing support and assistance with important financial decisions
The advice is this: don’t lock yourself into an investment without knowing what it is or what you are paying for. Ask what the product fee and underlying fund/portfolio management fees are? Ask yourself if your financial advisor is worth the fee they charge? If your financial advisor cares about your long term goals and charges an ongoing fee – your interests are aligned. An upfront fee does not incentivise a financial advisor to look after your investments over the long term.
If you have taken the step to start saving, it is a step in the right direction! Don’t ruin the experience by overpaying on fees or not getting the level of service you deserve.
I will leave you with some sound advice from Warren Buffet: “Do not save what is left after spending but spend what is left after saving.”