Seemingly piddling management fees can add up
Today, ask this question about the financial services you receive: How much is that in dollars?
The answer can be unnerving.
A percentage charge such as 1 percent or 2 percent of assets seems reasonable. But the actual cost in dollars can be an incredible bargain - or a monstrous overcharge. It all depends on how much you have invested.
Suppose you have an IRA with $10,000 invested in mutual funds. Invested in a fund with an annual expense ratio of 1 percent, the charge for providing management, accounting, custody, and reporting services is all of $100 a year. At the far extreme, a $10,000 investment in Vanguard Wellington fund, with an expense ratio of 0.30 percent, costs $30 a year or $2.50 a month.
That's less than a latte at Starbucks. Either way, the cost is a bargain because you couldn't possibly do the same thing on your own.
But as the amount invested increases, the dollar cost of management rises. Suppose you have $50,000 invested. Then you're paying $500 a year at 1 percent expenses, or $1,000 a year at 2 percent. Accumulate still more - say, $250,000 - and the dollar figures rise to $2,500 and $5,000. At a cool million, the difference between 1 percent and 2 percent is $10,000 vs. $20,000.
That's a whole lot of lattes.
So the further you go up the assets-under-management scale, the more you need to forget about the percentage charge. Instead, ask different questions. How much is that in dollars? What are you getting for those dollars? The dollar differences offer two very distinct opportunities. One is the opportunity to learn and invest for yourself, saving those dollars. The other is to divide the services you buy into asset management and personal financial advice.
If you pay yourself $50 an hour, you'll be able to devote 35 to 75 hours a year to investing your money. That's pretty good pay for most people.
And it's probably a wild overstatement of the time required. Remember, you can construct Couch Potato Building Block portfolios in a few minutes, and the returns compare nicely with managed funds. At the end of September, for instance, the year-to-date return on the 10 Speed Portfolio (with 10 building blocks) was 11.8 percent and the year-to-date return on the Margarita Portfolio (with three building blocks) was 11 percent.
If you're paying 2 percent of assets for an ill-defined service that really only manages your investments, the difference between 2 percent and 1 percent on a $500,000 portfolio is a whopping $5,000.
That $5,000 will buy 50 hours of advice at $100 an hour, or 25 hours of advice at $200 an hour. Very few people need 25 hours of high-priced advice every year.
Scott Burns is a syndicated columnist. He can be reached at scott@scottburns.com.
