Wednesday, February 13, 2019


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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