One of the most frequently overlooked topics in the investment world is fees.
Keeping fees low is one of the easiest ways investors can improve their returns over the long run, though it is not as entirely straightforward as finding a brokerage with no commissions.
It is easy enough to find a fund or broker that offers low or no fees, but is another thing to make sure one does not trade too much and erode this advantage through unnecessary speculation.
That being said, I want to concentrate on the benefits of adopting a low-fee approach to investing.
Focus on the fees
John Bogle, the founder of Vanguard, believed the only way investors should approach the stock market is with a long-term horizon, focusing on investing for the long run and keeping fees as low as possible. We can see that today in the Vanguard business model.
However, investors do not have to use Vanguard to keep fees as low as possible. They can use any financial services company as long as they keep this principle front and center in their minds.
Bogle observed that fees are one of the easiest ways to lose money in the market, but also one of the easiest losses to avoid. He made the following observation in his book, "The Clash of the Cultures: Investment vs. Speculation":
“The resemblance of the stock market to the casino is hardly far-fetched. Both beating the stock market and gambling in the casino are zero-sum games - but only before the costs of playing the game are deducted. After the heavy costs of financial intermediation are deducted, beating the stock market is inevitably a losers game for investors as a group. In the same way, after the croupiers’ wide rakes descend, beating the casino is inevitably a loser’s game for gamblers as a group.”
This is a fascinating point, which I think investors often overlook.
There will always be a cost to investing. Even if a brokerage does not charge commissions, there will be a cost somewhere, either an account management fee or the additional charge paid to market makers through a higher bid-offer spread. These fees and charges are not always a disaster, as long as they are recognized.
As long as investors understand and recognize the impact fees are having on returns, they can minimize them.
Overtrading can lead to excessive fees
I will admit this is something I have fallen foul of in the past. When I was trading more actively, I was matching or even slightly outperforming in the market, including fees and other charges.
While this was not necessarily a terrible outcome, it did not include the cost of me finding and researching ideas.
In many respects, this is another fee that is not necessarily always disclosed.
If I were to assume that my time and effort are equivalent to a management fee of around 1% to 1.5% per annum, I would have substantially underperformed the market.
As Bogle explained in his book, there will always be charges investors need to consider. Understanding how these charges, both monetary and non-monetary, impact wealth creation in the long term is a necessity for investors.
Some investors may even discover they have been overpaying for a service that is much cheaper elsewhere.
Controlling costs is really the only thing investors have a lot of control over.
They will never have any control over the direction of the market, economy or political environment. All investors can do is try and increase their wealth at the fastest possible rate. One of the easiest ways to improve returns is to reduce the amount of money flowing out the door on unnecessary fees and charges.
I am not saying investors should sell everything and buy a low-cost index fund. However, I do believe that investors should be aware of the costs of investing and their impact on returns in the long run.
