You don’t get what you pay for in the public stock market. One of the easiest ways to boost investment return is to choose low cost investments. From the compounding effect on returns, the difference is significant over time.
Let’s say you wanted to invest in the US Stock Market with an ETF or mutual fund. You’re 30 years old, have $100,000 saved up and contribute another $15,000 at the end of each year to your investment portfolio. We know that the US stock market returns 10% to investors over the long term. Simply by choosing the lowest cost fund, you should have ~$1 million more by the time you’re ready to retire at 65. The value add from low cost funds is most significant over longer periods of time and on higher dollar amounts.
All ETFs and mutual funds are products, just like what you see on the shelf at Target or at the grocery store. The product price is made up of various management and administrative fees, summarized as the expense ratio. This fee is written a little differently than your typical $19.99, it’s shown as a percent of each dollar invested. A lot of times, it’s an invisible fee as it’s taken out of performance automatically.
Actively managed funds have higher expense ratios because more time and effort goes into managing the fund strategy and the fund managers say their strategy outperforms the overall market – they say you should pay for a better product. The data shows that over the long run performance is typically worse. The average actively managed ETF costs investors 0.67%.
Passive funds are generally cheaper because the management strategy is simple – just match a chosen benchmark. But even while providing the same expectations, fund prices can differ. The average investor paid 0.51% in fees.
To invest in the US Stock Market, the lowest cost fund I know of is Vanguard Total Stock Market Index ETF (VTI). This is a passively managed, diversified portfolio with exposure to ~3,000 companies (all companies trading publicly in the US). The ETF costs just 0.03%.
Whatever funds you want to use, pay attention to the expense ratio. It’s as easy as going to Google and searching the ticker and/or name of the fund followed by “expense ratio”.
When we talk about fees, it’s all about optimization of the portfolio. The most important principle is still this: invest early, invest often, and ride the wave. In each of the three scenarios above, the investor ends with with a lot more money to use by investing rather than keeping as cash in a savings account.
Just remember, I’m not your financial advisor so the information may or may not best apply to your situation and you should get formal advice prior to doing anything. The information/data that is shared should be double checked by you and any conclusion that is driven based on past data is not to be interpreted as my advice for your future. I will do my best to only write what I think is true and right, but mistakes happen and we’re all learning together – this is meant to be a conversation. My employer has nothing to do with this blog – in fact, they’re probably upset I’m writing here instead of working.
One thought on “You Get More for Less”
Interesting that one can save/earn $1MM with just smart investing.