Investing costs matter
"Investing costs matter" shows how high fees can significantly reduce the amount of money you have in your portfolio. The longer you hold onto investments with high management expense ratios (MERs), the less money you will have for retirement or other goal.
The math works the same way for financial advisors who charge a fee based on assets under management (AUM). Whether you have an advisor who charges a 1% AUM fee, or a fund which has a 1% expense ratio, the effect on your portfolio is the same.
Percentages lost to annual fees
Stated more precisely:
- Assume that you buy an investment and do not touch it for n years. In other words, you do a "lump-sum" investment.
- Assume that the investment has an annual fee f, expressed as a percentage. For example, a mutual fund might have an annual fee (an expense ratio) of 1%, 2%, or more.
- Assume that the annual fee is taken once per year, at the end of each year. This assumption is a simplification. For example, in reality, a mutual fund calculates its annual fee as a daily fee.
- Temporarily imagine that the annual fee is zero and that your investment grows for n years. The final value of your investment: consider it as "100%."
- What percentage of your investment do you lose to annual fees? The answer is 1 - (1 - f)^{n}.
Later, we will prove the above formula. First, see the following table and examples.
| 0.05% | 0.10% | 0.15% | 0.20% | 0.25% | 0.50% | 0.75% | 1.00% | 1.25% | 1.50% | 1.75% | 2% | 3% | 4% | 5% | 6% | 7% | 8% | 9% | 10% | |||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 5 years | 0% | 0% | 1% | 1% | 1% | 2% | 4% | 5% | 6% | 7% | 8% | 10% | 14% | 18% | 23% | 27% | 30% | 34% | 38% | 41% | ||
| 10 years | 0% | 1% | 1% | 2% | 2% | 5% | 7% | 10% | 12% | 14% | 16% | 18% | 26% | 34% | 40% | 46% | 52% | 57% | 61% | 65% | ||
| 20 years | 1% | 2% | 3% | 4% | 5% | 10% | 14% | 18% | 22% | 26% | 30% | 33% | 46% | 56% | 64% | 71% | 77% | 81% | 85% | 88% | ||
| 30 years | 1% | 3% | 4% | 6% | 7% | 14% | 20% | 26% | 31% | 36% | 41% | 45% | 60% | 71% | 79% | 84% | 89% | 92% | 94% | 96% | ||
| 40 years | 2% | 4% | 6% | 8% | 10% | 18% | 26% | 33% | 40% | 45% | 51% | 55% | 70% | 80% | 87% | 92% | 95% | 96% | 98% | 99% | ||
| 50 years | 2% | 5% | 7% | 10% | 12% | 22% | 31% | 39% | 47% | 53% | 59% | 64% | 78% | 87% | 92% | 95% | 97% | 98% | 99% | 99% | ||
| 60 years | 3% | 6% | 9% | 11% | 14% | 26% | 36% | 45% | 53% | 60% | 65% | 70% | 84% | 91% | 95% | 98% | 99% | 99% | 100% | 100% | ||
| 70 years | 3% | 7% | 10% | 13% | 16% | 30% | 41% | 51% | 59% | 65% | 71% | 76% | 88% | 94% | 97% | 99% | 99% | 100% | 100% | 100% | ||
| 80 years | 4% | 8% | 11% | 15% | 18% | 33% | 45% | 55% | 63% | 70% | 76% | 80% | 91% | 96% | 98% | 99% | 100% | 100% | 100% | 100% | ||
| 90 years | 4% | 9% | 13% | 16% | 20% | 36% | 49% | 60% | 68% | 74% | 80% | 84% | 94% | 97% | 99% | 100% | 100% | 100% | 100% | 100% | ||
| 100 years | 5% | 10% | 14% | 18% | 22% | 39% | 53% | 63% | 72% | 78% | 83% | 87% | 95% | 98% | 99% | 100% | 100% | 100% | 100% | 100% |
Example: If you buy an investment with an annual fee of 0.10%, and do not touch the investment for 40 years, you lose 4% to annual fees.
Example: If you buy an investment with an annual fee of 2%, and do not touch the investment for 40 years, you lose 55% to annual fees.
Formula proof
See the Bogleheads wiki for the formula proof.
See also
References
External links
- "Why investment costs matter". Vanguard Canada.
- Johnson, Ben (Feb 10, 2016). "The Cost Matters Hypothesis". Morningstar.
- "Vanguard's Principles for Investing Success" (PDF). Vanguard Canada. 2020.