Fair Fee Fare
“The miracle of compounding returns is overwhelmed by the tyranny of compounding costs.”
John C. Bogle, Founder of the Vanguard Group
There is a menu of choices out there for your fee fare. Paying a fair fee for advice and investments is one of the most important aspects of your wealth strategy. It is also part of what inspired me to build my consulting business and name it “Wayfairer”, as I have come across too many people that don’t get fair value for the fees they pay. Fairness is not always about paying the lowest fee. It is about getting valuable advice and services. It is about getting outperformance versus passive investments like low-cost ETFs if you are paying for active management.
I have seen the menu of fee models out there in my years in the wealth industry. I know it can be confusing. Historically, a lot of the industry wasn’t very transparent about reporting the amount of fees paid in clients’ accounts. Even though fees are now disclosed, the industry benefits from taking your fees from your investment account. As a result, you don’t experience the pain of getting a bill and paying for them directly. I think this must be one of the reasons why so many people are still overpaying for their advice and investments. This is especially the case for smaller investors. My hope is that by educating you on the fee models out there, you can get fair value for the fees you pay.
Prix Fix Menu: Balanced Portfolios
Chart 1 below shows the range of costs for different advisory platforms in Canada for the full meal deal: a balanced portfolio. The fees are expressed as a percentage of assets. Fees can be as low as 0.1% for a do it yourself (DIY) approach using low-cost indexed ETFs through an online broker. However, you need to have the time and develop the knowledge to do it well. The good news is that it doesn’t take a degree in finance to succeed as DIYer. You can have a simple solution by using one of the many reasonably priced all-in-one balanced ETFs available out there.
The next cheapest option in Chart 1 is a DIY portfolio of low-cost indexed ETFs that incorporate environmental, social, and governance (ESG) criteria to meet sustainable investing goals. The other extreme of the fee range is mutual funds, which typically charge 2%. Even if this fee does include regular advice, the value of that advice should be weighed against cheaper alternatives.
The middle ground in the cost range is Digital and High Net Worth advisors. Digital platforms[1] provide automated advice or limited human support for smaller accounts, while larger accounts can connect with human advisors. The upper end of the middle ground is the all-in cost of 1.25% for a High Net Worth advisor. This is for people who have at least $500,000 of investable assets, and the fee applies to the first $1M of assets.
Chart 1
À La Carte Menu: High Net Worth Clients
For those of you fortunate enough to have $500,000 or more of investable assets you can use the à la carte menu. In this option a High Net Worth advisor puts together a solution customized to your needs. These advisors usually have three to five tiers of declining fees which cover custody of your assets, advice, and investment management. For example, the first fee tier is typically 1.25% for the first $1 million of assets. The last tier for exceptionally large clients is usually in the range of 0.3% to 0.5%. Using the typical tiered fee schedule, Chart 2 shows how the weighted average fee declines (vertical axis) as the size of the assets managed increases (horizontal axis).
Chart 2
Dessert Menu: Sweeter Returns From Lower Fees
You get a tasty reward if you can achieve your financial goals with lower fees. While you can’t control what your future return will be, you can control your costs. As the quote from John Bogle at the beginning says, there is a lot of extra return with lower fees because of the effect of compounding over time. Chart 3 is an example of an investor who starts with a $100,000 portfolio and realizes an annualized return, before fees, of 6% over the next 30 years. I have compared two extreme cases: an investor in mutual funds with a 2% fee versus a DIY investor in indexed ETFs with fees of 0.1%. The mutual fund investor ends up with a portfolio worth $324,340 at the end of 30 years, while our DIY investor has $558,314. That’s a sweet difference of $233,975!
Chart 3
Takeaway Menu: Delivering Fair Value For Fees
We know that paying lower fees, everything else being equal, will result in a higher portfolio value over time. We also know that you need to be careful about paying fees for active investment management from our previous blogs on balanced funds and other asset classes. Those blogs showed that most active managers have had difficulty outperforming low-cost indexed ETFs. The takeaway from combining this knowledge is the importance of getting value for your fees. Paying higher fees doesn’t necessarily mean you are getting the best advice, investments, or service. On the flip side, paying the lowest fees may not be the best solution if you need good advice and expertise. The bottom line is to make sure you take the time to educate yourself, or have someone educate you, on what advisory platform and fees are best for you.
Invest Wisely,
Dave Schaffner, CFA
Principal, Wayfairer Capital Management Ltd.
[1] Examples are Questwealth or Wealthsimple