It’s been a while but this thought excited me and wanted to share. No, I haven’t seen any dinosaurs as of lately, but I have seen some cool spaceships. But, that’s not what I’m here to write about, I’m here to discuss investment fees and choices. In the world of investing and finance I see dinosaurs and spaceships coexisting all the time. I turn on one street and I see a spaceship, beautiful, with the latest gadgets and technology screaming to take someone to space at 200,000 km/h and on the next block I see a dinosaur eating old grass and barely breaking the 0.1 km/h speed. What???
Investment fees and choices
Let me explain. The dinosaurs and spaceships I’m talking about are the investment choices, some identical out there, but with a huge difference in fees that they charge. I can take a quick look at an average investor’s portfolio and I can almost instantly see where we can reduce 50%-80% or more of their investment fees while enhancing their long-term performance. This is the active-passive debate in investing where a typical active fund charges on average 1-1.5% in annual fees with the promise to beat the market, while an index fund (passive investing) charges somewhere on the 0.10% or less in annual fees. The research shows that passive beats active investing over 90% of the times. So we can cut the fee by 50-80% while improving performance and putting someone on the top 5-10th percentile of all investors. Wouldn’t that be a cool ‘spaceship’?
But, many will say that you’re comparing apples to oranges (active funds vs. passive funds), which of course, I disagree. The goal of investing is to make enough money so you can achieve your financial goals, regardless which funds you pick, and we have long-term research that verifies that passive index funds over the long run (10 years+) almost always fall into the 85-90th percentile of all similar funds, then the argument of being apples vs. oranges doesn’t make sense. They are not different fruits, it is the same fruit (the goal of making money) but passive is much better and at a much cheaper cost. But that is not the dinosaur vs. spaceship level yet.
Dinosaurs vs. spaceships
To get it to the level of dinosaur vs. spaceship level I want to compare identical products but at huge cost difference between each other. As an example, Index funds are created to follow a particular index, say S&P 500, are unmanaged and most do a very good job of following their index, minus their costs. Now, two index funds following the same index makes them identical products, like two cups of coffee. A cup of coffee from this store here vs. another cup of coffee from a store over there. Now I know there may be taste differences amongst those cups too, but go with me here.
Back to investment fees, in my world, I can find one index fund following the S&P 500 index charging 2.33% annual fee, but I can also find and invest in the same identical product, another index fund following the same S&P 500 index, at a fee of 0.02%. So, a 2.33% fee vs. 0.02% fee for the same exact thing. That is a huge gap of over 99% between the two for technically the same product.
Again, small numbers and percentages no one wants to think about, so let’s convert them into my coffee example. What I’m saying is that I can find the equivalent of a $1 cup of coffee as well as a $116 cup of coffee in the same market (if we convert the above fees and make the small fee equal to $1, the larger fee becomes $116). That’s the dinosaurs and spaceships that I see. These identical products at these investment fees both coexist and that is CRAZY to me. Also, the $116 cup of coffee is not a shop where no one goes, almost $160 million dollars are invested in that fund (meaning these people keep paying those investment fees daily).
Financial Literacy
Now, would anyone willingly continue to buy a $116 cup of coffee in this world? And why does it happen? As many know I’m a big proponent of financial literacy and education. Like many things in life this happens because people don’t know, they’re not educated in the field and just take the suggestion of their ‘friendly financial advisor’ which is a salesperson and not an advisor in this scenario. Noone wanting to do good advises that fund, no one who understands what investment fees do, which is, reduce the performance.
Sure, many will say Financial Literacy is not the solution to all and everything and I agree, not everything we know automatically changes our behavior. For example, many know that smoking is bad while still smoking or know that junk food will eventually get you sick but still eat it, but in this instance, if I show you the dinosaur while I’m flying in a spaceship you cannot forget that or noone willingly after learning the facts will continue to buy the $116 cup of coffee if a similar cup of coffee is being sold for $1. Noone. Financial Education works and education at the moment when you’re ready to learn and take action on your finances is even better. Our financial literacy courses touch on all these and much more whenever you’re ready to take action on your money.
Jack Bogle ‘killed’ the dinosaurs
I couldn’t finish this without mentioning the man who many people, including me, credit for this revolution in finance and creation of this ‘investing spaceship’, the late Jack Bogle, founder of Vanguard Group who died January 17 at age of 89. He was the leader responsible for ‘killing’ most of the dinosaurs in our investing world, and while we still see a dinosaur or two, most of them already know they’re dead. The next major issue is that there are still cars from the 1920s roaming around and they are next to go or become collectibles, just for a few. I’m looking at you, active managed funds. You’re the next dinosaur and this ‘investing spaceship’ is coming to get you.