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Active investing costs far more than the headline charge [video]

Discover how certain costs impact your portfolio performance

    With most items you purchase, you are aware of exactly what you are paying

    But when it comes to the cost of investing in actively managed funds, the fees and charges associated can be opaque...

    Investment consultant, John Beckett, explains how hidden costs can impact your returns...

    RP: With most things you buy, the price you pay is clear for all to see. But the cost of investing in an actively managed fund is far less obvious. The biggest problem investors face when working out the cost is that some of the fees and charges can be very opaque.

    JB: So, there are things such as the management charge — the investment management charge. That’s the amount the investor would pay directly to the fund manager for providing that investor investment expertise. But there are other costs that they can’t see: custodial costs, accounting costs, auditing costs, general administration, general custody costs that — again — they can’t see.

    You also have trading costs, and these are generally unseen to the market. Investors don’t see these. And that’s basically the cost between buying and selling an asset, and it generally is given away in brokerage commission, or it’s given away in what we call “spreads”, which is the difference between the buy and sell price of a particular asset.

    RP: So, remember, the annual management charge is only part of what you pay. The total cost could be three or even four times bigger than that. And because you don’t know in advance how often your chosen fund manager is going to trade, there’s no way of telling what your transaction costs are going to be.

    JB: The true cost isn’t yet known. The regulators don’t know what that true cost is. In many cases, the fund managers themselves don’t understand what the true costs are either. So we could be talking a quantity that’s even greater than those three, four times I’ve just mentioned.

    Ultimately, we’re still on a journey. I think, in the next three to five years, we will better understand what the total costs are for fund investing, but right now we’re just not there.

    But I think what has come home — not just for fund managers, but also for fund buyers — is: what is the effect of portfolio turnover? Do fund managers turn over the portfolio more than they have to? Should they be investing more long-term? Does it question their quality and their ability in terms of buying and selling discipline?

    RP: The beauty of index funds — market cap-weighted funds in particular — is that transaction costs are very much lower than for active funds. Over time, that can make a huge difference to your returns.

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