We’ll begin with a telling quote about investment cost.
“Whether markets are efficient or inefficient, investors as a group must fall short of the market return by the amount of the costs they incur.” – John Bogle
So what does Investment cost mean?
It’s the cost of investing or the fees associated with particular investments such as commissions paid and annual fees. Market returns are unpredictable but investment cost can be known.
When investing, you shouldn’t assume that because you’re paying higher costs, it means you’re receiving a better product. It’s possible that the higher cost is made up for by an excellent manager, but in most cases and especially between similar passively managed funds, the lower cost fund is a better option.
For example, 50 years ago you invested $10,000 in a fund that returned the S&P 500 historical average of 9.1%* per year. But unfortunately, you made the mistake of paying 1.5%** year rather than investing in an identical fund that charged nothing.
Over that time span, you would have given up 47% of your potential earnings, equating to $360,000.
So next time you think about investing, invest some time in understanding the fees and then minimizing them. In 50 years you’ll be thankful that you took an extra 30 minutes today to do it.
If you are already invested in a higher cost fund, try using Vanguard’s calculator to see what you’re losing out on. (If you’re making the change in a taxable account, don’t forget about your tax consequences if you have gains).
*9.11% was the S&P 500’s average compounded annual growth rate from 1871 to 2015.
**1.5% is around the average actively managed mutual fund expense ratio according to Motley Fool