Don’t let investment costs ruin your retirement plans.
In Common Sense on
Mutual Funds (2009), John Bogle clearly and methodically articulates the
importance for investors to maintain a simple and low-cost investment strategy.
Throughout his book, Bogle demonstrates how high-cost mutual funds siphon off
vast amounts of investor wealth over the long-term. He uses American
statistics, noting that many popular mutual funds charge investors between 1-2%
per year in management fees, in addition to other portfolio transaction costs
associated with frequent portfolio turnover and trading activity. These fees
may not seem like a lot to a typical investor, but over-time they consume a significant amount of the total investment return. For instance, if a stock mutual fund's portfolio
returns 6%, and 2% is charged in fees, this equates to 1/3 of the total
investment return. With many bond mutual funds currently yielding around 2-3%, even a 1% management fee is quite burdensome. In the long-run, this could mean many more years spent working until you can enjoy retirement.
In Canada, the
situation is worse for many investors. According to Morningstar data, the
average Canadian management expense ratio (the management cost of the mutual fund per
year) is around 2.35%. On a million-dollar portfolio, that amounts to $23,500
per year in management fees. Of course, what should matter to investors is not
just the cost, but their net return. Essentially, if higher investment
performance compensates investors for higher fees, then the cost may be
warranted. However, evidence completed by Vanguard clearly indicates that
low-cost passively managed index funds continue to outperform most actively
managed mutual funds (2018).
What’s the
solution? A well-disciplined investment strategy that limits costs and
emphasizes a sensible long-term asset allocation. John Bogle recommends the use
of passively managed index funds (stocks and bonds), but he does
note that a well-designed portfolio of actively managed mutual funds could do
the trick (though perhaps not as well). The caveat to going with actively
managed funds being that they must have reasonable fees, relatively low portfolio
turnover, trusted management, and consistency. Finding all of that in a common mutual fund is no easy feat.
Thanks for reading,
and happy investing.
Matthew.
References
Bogle, John.
(2009). Common Sense on Mutual Funds.
Hoboken, NJ: Wiley & Sons.
Vanguard Research.
(2018). The case for low-cost index-fund
investing. Retrieved from, https://www.vanguardcanada.ca/documents/case-for-low-cost-index-fund-investing.pdf
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