Working out the real cost on fund charges and fees
Fund costs, like interest expense, have a compounding effect over time. They can have a significant impact on investment returns, one that’s not always easy to discern.
For instance, if you take a ten year investment horizon, a not unreasonable timeframe if one is investing for the long run, notice how if total costs are kept around 0.75% per year, the percentage of the portfolio value retained after costs is around 93%.
That is still a noticeable drag on returns, but then consider the equivalent numbers if costs are double that. In this case the percentage of the portfolio value retained after costs is around 86%.
The vital calculation is to work out the ‘real’ cost each year on the portfolio.
This includes fund costs, platform costs and foreign exchange costs. If you are paying 0.75% for ongoing advice, then you have quite a ‘headwind’ before you even start on investing.
Fund costs are often fiendishly hard to work out. One should not settle for the quoted annual management charge (AMC), neither the ongoing charges figure (OCF). There are other hidden costs on top of what is included in these two figures.
The numbers in the table assume neutral growth, so that the compounding effect of costs is not obscured by investment returns (either positive or negative).
High costs and very long periods of time emphasise the point that costs matter. The ‘best-case’ portfolio, with 0.2% annual charges, retains over 95% of the capital after 25 years. A ‘worst-case’ portfolio, with 2% annual charges, will have given up almost 40% of the capital after 25 years.
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