Overpaying to invest is a huge mistake

Overpaying rarely makes sense, whether it's for groceries or financial services. In investing, paying too much can quietly erode your long-term returns.

Some costs are worth it. But many investors pay far more than they need to, often without realising it. According to investment strategist JOACHIM KLEMENT, that money benefits others far more than it benefits you.

KEY TAKEAWAYS

1. High fees reduce your returns

Klement warns that unnecessary fees often reward the product provider, not the investor.

You do not need to avoid all costs completely, but you should always make sure that what you are paying for is genuinely worthwhile.

Minimising fees, he says, is one of the simplest ways to improve your overall outcomes.

2. Passive funds offer better value

One of the easiest cost-saving moves is switching from actively managed funds to passive ones. Most ETFs or index funds charge much lower fees, typically a fraction of the cost of an active fund.

According to Klement, you can often expect to pay around 0.2 to 0.4 percent a year for an ETF, compared to around 1 percent for an actively managed fund.

3. Your behaviour also has a cost

Costs are not limited to what shows up on your account statement. Behavioural mistakes like panic selling or chasing past performance can be just as expensive.

A good financial adviser, or a trusted and experienced person, can help you avoid costly emotional decisions. They act as a guide, especially when markets are volatile and your instincts might lead you astray.

RELATED CONTENT 

https://www.evidenceinvestor.com/post/overpaying-to-invest-can-cost-you-a-third-of-your-returns

https://www.evidenceinvestor.com/post/is-vanguard-a-sensible-option-for-uk-investors 

https://www.evidenceinvestor.com/post/fees-and-charges-make-a-big-difference-to-investors 

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TRANSCRIPT

Robin Powell: It’s never a good idea for pay more than you need to for a product or service. And investing is no exception.

If you reduce the amount you pay to a reasonable level, it could make a substantial difference in the long term.

Joachim Klement: One of the big mistakes that you can make is pay too much for what you get. Paying too many fees will make your product supplier happy, will make the bank happy, but it certainly will distract, subtract from your performance in the end. 

And as a result, you should try to minimize fees or to reduce fees. That does not necessarily mean paying nothing at all for advice or for products. It's just that you have to make sure that you get the best bang for the buck, as the Americans would say.

RP: Investors can do themselves a huge favour at a stroke by switching from expensive, actively managed funds to low-cost, passive alternatives.

Using an active fund is far more than investing in a passive one, particularly when you factor in the cost of ongoing transactions. 

JK: So if you compare passive funds, whether we're talking about ETFs or index funds, with actively managed funds, they tend to be massively cheaper. A typical ETF will set you back in terms of annual fees, total expense ratios of 0.2 to 0.4 percent.

I think that's where we are roughly at this point in time. If you go to the cheapest index funds, you can get it for less than 0.1 percent per year. A typical fee for an actively managed fund is 1%. So the index fund, the ETF costs you one fifth of what the actively managed fund costs, roughly. 

RP: But another big cost you need to think about is self-imposed.

It’s the cost of your behaviour — buying high and selling low, and letting your emotions and in-built biases get the better of you.

This is where a good financial adviser can help.

JK: A good advisor. Whether it's your financial advisor or a trusted person in your family who has experience as an investor can actually help you manoeuvre your way through the ups and downs of markets and literally help you stay calm.

Calm you down actively. Like a doctor would if you have a panic attack or a nurse would after if you have a panic attack. Similarly, if you are getting afraid about markets, that is like a panic attack and your financial advisor is like a doctor for your wealth or for your money, 

RP: The key, then, is to be smart about the costs you pay. Some things are worth paying for; others aren’t. It’s that simple.