A 1% saving on investment fees could mean that you retire with 20% more income in retirement – than someone of the same age who contributed a similar amount over the same period to comparable investments.
A 1% saving on investment fees could mean that you retire with 20% more income in retirement – than someone of the same age who contributed a similar amount over the same period to comparable investments.
This is according to Willem van der Merwe, the CEO of Sygnia Securities. “All else being equal, a 1% per annum saving on fees could enable you to retire three years earlier or be enough additional capital to provide you with an income for an additional ten years longer in retirement,” Van der Merwe says.
As the bull market of the past seven years begins to look increasingly bearish, investment fees are coming under increased scrutiny.
“If you’re earning compounded returns of around 25% per annum, fees tend to make up a relatively small portion of the gain received during the year and are not something that investors focus on too much. When returns are lower, however, the impact of fees is more pronounced,” says Van der Merwe.
“Most investors in a middle- to higher-risk investment strategy are going to be looking at around an average of 5% to 6% real returns per annum over the long term. If you start taking costs and expenses off of 5%, even a 1% fee becomes a meaningful number,” he says.
A fund’s total expense ratio (TER) (i.e. the cost paid by the investor to be in that fund) is generally made up of management fees, performance fees and fund-related expenses, such as auditing, administration and trustee fees. Performance fees are generally the most costly elements of the TER, according to Van der Merwe.
“Over and above that, you need to examine the cost you pay to own the investment. Often there are product wrapper fees, platform costs – if you’re investing via a LISP (linked investment service provider) – and advice fees. When determining the total cost of making an investment, you have to take all of these components into account and set that off against the reasonable 5% to 6% real return you can expect to earn over a long period of time,” Van der Merwe explains.
While it’s difficult to categorically determine what would be considered fees that are ‘too high’, Van der Merwe says that a TER approaching 1.5% would make him uncomfortable and lead him to ask whether the additional returns over a longer period will compensate him for the higher fee. “Even that 1.5% is high, you can get away with significantly lower cost levels,” he says.
Just as you should reassess your insurance policies every so often to make sure you aren’t overpaying for cover you don’t need, Rian Brand – Portfolio Manager at Sygnia – suggests frequently re-evaluating your investments and asking whether each layer of cost is adding the value that you are paying for.
Getting your cost structure right requires doing a bit of homework but is the easiest part of structuring your investments, adds Van der Merwe. Selecting the right fund manager, on the other hand, is difficult. This is why passive investments – which are generally lower in cost and don’t require the careful vetting of different fund managers – are so attractive.
“Look first at what you can do with passive investments and only then consider paying up for active management. There will always be exceptionally bright portfolio managers who will be able to add value over and above what a passive investment can give you, even after their fees have been paid, but finding them and monitoring them requires significant time, effort and resource. And even then, we see a lot of sense in using active managers in a mix with passive investments,” Van der Merwe comments.
“Younger investors, particularly those in their 20s and 30s, should save as large an amount of money as possible in a sensible, high-growth investment strategy, at the lowest cost possible.
“These investors should spend little time on trying to be clever about maximising the returns they earn since the biggest determinant of wealth creation for them in the short term is how much they contribute, and not the investment returns they earn.
“The return part of the equation becomes more important than how much you contribute only much later on in life (since your monthly contributions tend to become smaller relative to the return on the asset base you have accumulated). This is when you can start paying for financial advisors and more complex investment strategies,” he says.
Either way, says Van der Merwe, saving on fees means that over the long-term the odds are in your favour.