If you’re car shopping and have narrowed it down to two similar models, but one is $10,000 more, you intuitively know the more expensive model is built with higher quality materials or offers more features. This relationship of higher price = better quality holds true in many economic transactions, but there is one big exception…investments.
The reason this relationship doesn’t work in the investing world is because higher cost funds routinely underperform lower cost investments. Unfortunately, many financial advisors are paid by the products they recommend and tend to favor using more expensive investments for their clients.
Ultimately, every additional dollar you pay in fees and investment expenses is a dollar that isn’t compounding for your financial future. The difference between a $500,000 account paying 0.90% in total fees versus 1.90% over 10 years is $89,000 (assuming 8% returns). Over 20 years, the amount becomes $337,000 and over 30 years it’s just shy of ONE MILLION DOLLARS (pinky finger to corner of mouth)! A million here a million there, pretty soon we’re talking real money!
A couple years ago, the Council of Economic Advisers put out a study showing retirement investors lose more than $17 billion a year in fees paid on products that aren’t in their best interests. Variable annuities, non-publicly traded REITs, whole life insurance, and other expensive products typically fall in this category. We’ve written about these “investments” to avoid before.
It’s your money. You should have a complete understanding of what your investments are costing you. Minimize fees when and where you can. The easiest way to do this is to work with an advisor who isn’t paid by the investments they’re recommending. Your future financial self will thank you for paying attention today.