Managed investment accounts are becoming more popular all the time. People are busy with their careers, busy with life and not always either knowledgeable or up-to-date on what’s happening on the investment front. Paying someone to manage your investments therefore can make a lot of sense.
But there’s a fee to be paid for such a service, and how much you pay for the service—and what you’re getting for it—can make a huge difference.
How much are you paying in fees?
Investment managers have various fee schedules. Some could be flat fee only, some as a percentage of portfolio, some commission based and still others a combination of fees plus commissions.
Managers will usually provide a quarterly or annual summary of the fees they charge, and it’s important to consider this fee in light of both the size and performance of your investment portfolio.
If the portfolio being managed is, say $200,000 and you’re paying $6,000 in fees, you will be paying three percent of your portfolio to your manager.
This is important to know because investment return is based on percentages. If, for example, your portfolio gained 10% in the past year, but you paid 3% in management fees, your true return on your investments is only 7%.
That kind of difference can add up as the years pass.
The Bear Market Multiplier Effect
Most people are pretty happy with their investment managers when they’re making money. But they’re unhappy—or worse—when they’re losing money.
Investment managers are doing their job even when markets fall, so they still collect a fee. But your investment performance will be that much worse. The fee percentage is magnified in years in which the financial markets fall.
If your investments lost 10% in the past year, and you paid a 3% management fee, your true loss on your investments will be 13%. Paying fees out of gains is easier to take than paying fees that add to your losses.
Duplication of fees
Many investment managers put some, most or even all of your investment portfolio into mutual funds. If this is the case (and it usually is) you’re probably paying duplicate fees.
Mutual funds are professionally managed funds in themselves, and there are fees paid to fund managers within the fund, even if you don’t see them come out. Some funds also have “load fees”, which is a percentage fee you pay either to buy a fund, sell it, or both.
One way or another, you’re paying a fee (or fees) to the mutual fund as well as the overall fee you’re paying to your investment manager. Two fees for the price of one investment.
Duplication of investments
Working in both the mortgage and accounting fields I’ve had an opportunity to review the investment portfolios of hundreds of people. What I’ve seen—no surprise here—is that there’s a noticeable pattern of “follow the leader” when it comes to investing even among investment managers.
If Stock X or Mutual Fund Y are hot, nearly every investment manager will have those securities in their portfolio mix. This is also true among mutual funds in almost every sector—what ever stocks one fund in a sector has, the others will have as well.
You can almost know without looking at their portfolios which securities they hold just by reading the financial press.
The point is, just because you hire someone to manage your investments doesn’t mean they’re doing something unique for you. There’s an excellent chance that you have the same investment mix as the rest of their clients do.
Paying an investment manager who has certain expertise—such as a successful track record at overseas investments, counter-cyclical investments or value investments—could be well worth the fee you pay if they can consistently outperform the overall market. These are special investment areas that can enable you to earn much more on your portfolio than the average investor will.
Most investment managers however will concentrate their clients in the popular investments of the day.
Managing your own money
If you have an investment manager who’s been able to outperform the market (especially after accounting for his fees) then you’re working with someone who’s worth their weight in gold. If you have no aptitude or interest in investing, but have substantial assets, investment managers are the solution to your problem.
If however you have any investment interest and ability at all, you might be better off managing your own investments. You can probably duplicate the investment mix of a typical managed account without too much effort. You might even do a better job since you won’t have the investment management fees to pay.
Think about this: If the typical investment manager is doing what every other investment manager is doing, you will never outperform the market. And because of the fee you’re paying, you will usually under-perform on a net basis.
But you can achieve market level performance yourself just by putting your money into a no-load index fund. The only thing you need to do is decide on a portfolio mix—how much to keep in stocks, fixed income securities and cash.
You can handle the portfolio allocations any way you’re comfortable. There are different methods to determine allocations but the most popular is to keep the stock percentage as 100 minus your age. That means that if you’re 30, 70% of your portfolio should be in stocks (100 – 30). If you’re 40, then 60% should be in stocks (100 – 40), and so on. The percentage that’s not invested in stocks is allocated between fixed income securities and cash.
As to fixed income securities—certificates of deposit, treasury securities and the like—they’re simple investments. You can invest in them through a typical investment account at any brokerage firm, or even separately through your bank. Cash—money markets and treasury bills—are just as easy to buy. You can add these to your position in index funds within the same investment account and achieve a professionally balanced investment mix.
If you’re 30, you could have 70% of your portfolio in index funds, 25% in treasury notes and 5% in money markets. You’ll have accomplished approximately what an investment manager would do for you but without paying the hefty fee every year.
Think of it as investing by cutting out the “middle man”.
Do you use an investment manager to handle your investment accounts for you? How do you feel about their performance?