If you swim too close to a shark it'll bite ya! If you have decent savings, investments and pensions you could be in danger of getting bitten too! We're here to help you understand if you are in danger of getting bitten, it's up to you as to whether to stay in that water or not!
We are realists here at Informed Decisions and so no matter what you get done; a tap fixed, a wall painted, a tooth pulled, a will administered, a house bought or indeed an investment invested you will pay a price for those services! This episode it aimed squarely at ensuring you know the impact of any fees you are paying on your financial products, wealth management or indeed retail investment products here in Ireland. We'll also share some insights on what you might be able to do to help yourself avoid a nibbling......because ultimately controlling your costs is a smart thing to do!
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What Fees Should I Be Paying On My Investments & Pension?
Fair and decent question, and if you have been dealing with a fair and decent advisor or planner with regards your investment portfolio then you should know the answer, because they'll outlined this clearly and in writing to you before you actually jumped into the water!
There are several well documented fees that you could pay in your investments and pensions (and many hidden ones too- but that's for another day!). The fee which we will be focusing on here today is the Annual Management Fee or Annual Management Charge (AMC as it's known).
Interestingly the AMC which will be quoted by your provider is the head-line figure. It is the figure which your provider is obliged under regulation to tell you about. It does not include often hidden transaction and custody fees. A more accurate measure of the actual fee you are paying is the Total Expense Ratio (TER) or Ongoing Charge Figure (OCF). Death by acronyms! So what is TER or OCF? Ultimately it is the actual % of your fund value being taken to pay the various stakeholders involved in managing your fund. And no surprises to learn that this is always a larger bite than the AMC being quoted!
When the new EU directive known as MIFID 2 comes into force in 2018 it may force providers to display with more transparency the actual total fees investors are paying, and forced to show the TER or OCF instead of the AMC. Until then all that we can go on is the AMC, so lets get to it!
Are Fund Fees Eating Into My Returns?
Yes is the simple answer. You would never expect to have zero charges, you are paying lots of people to do lots of things in the provider you are investing with, but being aware of what impact it's having is a must. Here are 2 simple examples, one assuming a 2% fee and another a 1.2% fee.
Assume a 2% Annual Management Charge on your investment (which some brokers/providers are actually charging!). Assume you invest €10,000 into this for a 10 year period. Over that 10 year period the fund ( a conservative balanced fund of bonds & shares) achieves an average of 5% growth per annum. You're a happy camper. Or are you!
Your fund would have grown from €10k to just over €16k, a growth of over €6k. However the impact of that 2% is so significant that the provider in this instance keeps 46% (nearly €3k) of that growth. This is achieved by the constant nibbling of that 2% fund charge, and you don't even see it happening! You get to keep the other €3,300 growth, and then pay exit tax of 41% on that growth........not sure you're a happy camper now! But this is the reality, the black and white figures, no hidden agenda, no marketing, just facts.
Contrast that to a similar fund with a 1.2% AMC. A 0.8% of a difference may not seem like a whole pile, but anyone who has been with us from the start will realise the impact of compounding, both positively and negatively....just check out this, this or this!
Your fund would again have grown from €10k to €16k, a growth of €6k. However this time the impact of the 1.2% is less of a shark bite.....the provider keeps 30% of the growth (€1,800) and you as the investor taking the risk gets to keep the 70% (€4,500).
What Happens If Growth Rates Are Low?
If growth rates on your fund are low (or even negative!) over the 10 years, you are still hit with the same level of fee you consciously agreed to at the start, at least should have been consciously aware!
If you opt for a low volatility fund, and it performs in line with expectations, say 3% per annum growth, the impact of the 2% fee is pretty scary.
At 3% growth per annum for 10 years your €10k will grow to just over €13,500, a growth of €3,500. However your broker/provider will be nibbling just shy of €2,500 of that, that's nearly 70%!! You get to keep the other €1,100, and then pay 41% tax on it!
If you were paying 1.2% fee your provider keeps €1,500 while you keep €2,000 of the growth. A no-brainer.
What Happens If Growth Rates Are In Line With Long Term Global Equity Returns?
It might seem hard to believe but the long term global equity returns (assuming you didn't jump in and out of them!) has delivered close to 10% returns. If you were to achieve that over a 10 year period the same 2% AMC from provider would have a lesser impact in regards the % of your growth it consumes.
Your €10k would grow to close to €26,000. In this instance the 2% AMC consumes less than 30% of your growth (€4,600) however you get to keep 70% of your growth (€11,000). If you are paying only 1.2% you get to keep over 80% of the growth.
And that's the key thing here, unless you give yourself access to these sort of growth rates you are walking yourself into a situation whereby a large chunk or indeed the majority of your growth will be consumed by the Annual Management Charge. So, why don't people do that??....well that's usually down to the perceived risk associated with investing in the great companies of the world (Global Equities!), which in reality is the level of volatility (degree of ups and downs), not risk (chance of losing all your capital)....check out Podcast #40 to find out what this is all about!
What If I Have €100,000 Invested?
Well you simply multiply all the above growth figures and costs by 10! If you have €1,000,000 then you multiply the above figures by 100!
So What Should I Do About Fees?
As we said at the outset, all we are interested in doing is raising awareness about the impact of fees, and we are hopeful that the above goes some way towards achieving that. What you do with that information is obviously your shout!
Some may decide to pick up the phone and ask the hard questions, some may go as far as to seek a lower cost provider. Some may find it somewhat interesting and not do anything about it. Whatever you do that's your decisions, inaction is a decision, action is a decision.
Some will say that 'you get what you pay for' as a justification for a high fee. But we also know that often we don't get what we pay for!
We will add that you may find out you are paying 2% or in that region, but that you are getting real value for that, you are receiving a service from your provider/broker/planner, a hand-holding and trusted advisor who provides real value to you and your family. In this instance you may feel that your advisor does not just sell you products, but provides a financial planning service, supports you achieve your goals and coaches your behaviour when you feel the need to do something financially foolish! If that's the case then 2% may well represents fair value for you.
If on the other hand you feel you feel you are getting nothing for your annual fee, that you receive nothing but an annual statement, then you may indeed feel the need to get out of the water, and avoid the shark!
Liwesie you may find that you are paying a very reasonable fee, and that you are receiving a really valuable service, as outlined in previous paragraphs, a trusted life-long advisor. In that case I implore you to pick up the phone and say 'thank you' to her or him, and while you are at it introduce some of your friends to that advisor......the world needs more advisors like these.