Fund fees can erode as much as half or more of your prospective gains.
For the sake of dramatizing the point, John Bogle, founder of Vanguard, the world’s largest mutual fund company and pioneer of low-cost index funds, gave me a startling example while we were filming. Assume you are invested in a mutual fund, he says, with a gross return of 7 percent, but that the mutual fund charges you an annual fee of 2 percent.
Over a 50-year investing lifetime, that little 2 percent fee will erode 63 percent of what you would have had. As Bogle puts it, “the tyranny of compounding costs” is overwhelming.
In short, fees matter. So what can you do? You aren’t going to find a fund that invests your money for free, but experts say you can come close by buying index funds. Their fees can be a tenth of what the average mutual funds charges. And over time, in bull and bear markets, on average, index funds perform better than their more expensive actively managed fund cousins. This is no secret to anyone who is paying attention.
So why aren’t our trusted financial advisers and those ads telling us to buy index funds? Why do some 401(k) plans not even offer them on their menus?
It’s because even though an index fund might be a better option for you and me, a broker operating under a suitability standard has no incentive to sell it to us. He or she will make higher commissions from options that have higher fees.