In light of revelations arising from the Banking Royal Commission, there’s now an even greater industry focus on the fees being charged for investment advice and financial products. As this note demonstrates, ensuring investment fees are not excessive is one key way investors can look to boost their investment returns over time.
Investment Fees: The Quiet Achiever
Although there is often an intense focus among investors and the investment community over which managed funds are producing the best returns, the reality is that the fees that funds charge can often be just as important in determining their net-return (i.e. after-fee performance).
Indeed, seemingly small differences in management fees may not at face value appear to matter all that much to investment returns, but thanks to the power of compounding, it can amount to a lot over time.
Consider a simple example. Imagine a new investor makes an initial investment into Australian shares of $10,000 that then grows in real terms by 5% p.a. Over 40 years – close to the average investment time span for new investors entering the workforce – that initial investment would have grown to be worth a respectable $38,835 in today’s dollars if the investor had paid the average Australian active investment management fee for Australian share funds (according to Morningstar) of 1.55% p.a.
Not bad, you might say.
But as evident in the chart below, had the investor paid only a 0.07% p.a. investment fee – and assuming the same pre-fee investment performance – their nest egg after 40 years would be worth $68,547, or a whopping 77% more!
In short, costs really can matter!
Fund Manager Alpha – less reliable than low fees in boosting returns
Of course, you might argue that it’s worth paying higher fees if your active manager can handsomely beat the market over time. But while there are no doubt some good active managers in the market, and they can indeed complement passive investment approaches for at least a part of one’s investment portfolio, the undeniable fact is that most active funds managers still tend to under perform their investment benchmarks over time. Finding the good ones, especially the consistently good ones, is not easy.
According to a recent S&P Dow Jones SPIVA Survey, for example, around two-thirds of active Australian equity managers under performed their benchmark index over the past five years to 30 June 2017. What’s more, these results have not tended to change much over time, and are also consistent with international evidence suggesting active managers have a hard time, on average, beating passive investment benchmarks.
But if most active managers can’t beat the market, it begs the question: why should investors pay high fees for the privilege?
The BetaShares Australia 200 ETF (ASX Code: A200)
Of course, you might also contend my example above is pretty extreme – how is it possible to get an investment fund that offers returns similar to the broad Australian equity market for only 0.07% p.a.?
It turns out you can, thanks to the recent launch of the BetaShares Australia 200 ETF (ASX Code: A200). The A200 ETF aims to track the performance of an index (before fees and expenses) that provides exposure to the largest 200 companies listed on the ASX, based on their market capitalisation. A200 is the lowest cost Australian shares ETF, not just in Australia, but the world!*
*Source: Bloomberg, based on expense ratios of Australian shares ETFs traded in Australia or on overseas exchanges.
As evident in the diagram below, the A200 ETF provides diversified exposure to the major industry sectors and large-cap Australian stocks.
So, if you share our view that costs are the one easy thing for investors to manage, and understand the value that lower fees can bring to an investment portfolio, then the A200 ETF may be well worth a look!