30 Day Investing Challenge, Day 8: Evaluate your investment options
Now that you’ve gathered all the information about what investment accounts you have it’s time to analyze what you’re currently invested in (if you’re not invested in anything yet, don’t worry: this challenge still has fruitful information for you).
A huge detriment to wealth building is excessive investment fees. Over a 30 year period you could lose hundreds of thousands of dollars if you’re charged a 1% fee. One percent may not sound like a lot, but when you take into account what you’re missing out on by that money not being invested it adds up over time. Below is a chart that shows how much you’d lose to fees (assuming a $3000 contribution in year one, with an additional $250 added every year afterwards for 30 years), without taking into account the money not being invested:
If you’d taken the amount lost for the 1% fee row, i.e. $98,567, and invested that amount over those 30 years you’d have another $408,358 in your investment account, which would be over $1 million.*
A good way to get around this is by analyzing the fees associated with the mutual funds you invest in. Many times in employer retirement accounts you have a very limited selection of funds to choose from, but that doesn’t mean you can’t make sure you’re getting the lowest fees you can. If, however, you have access to index funds (a type of passively managed mutual fund that tracks a specific index and has very low fees) then you’re golden.
There can be a lot of fees associated with investments. I’m not going to cover everything today because many are irrelevant to you, so I’ll focus on 5: expense ratios, assets under management (AUM), front-end load or front-load fees, back-end load fees, and level load fees.
Expense Ratio
An expense ratio is how much you pay a mutual fund per year and is calculated as a percent of your investments. It’s determined by dividing a fund's operating expenses by its net assets. Passively managed funds always have lower expense ratios because their operating expenses are very low.
Assets Under Management (AUM)
Assets under management (or simply “management”) is a fee charged by an investment manager for overseeing a mutual fund. The fee compensates managers for their time buying and selling stocks within the fund. This action is also what increases fees associated with a fund and are why they’re deemed “actively managed.”
Front-End Load or Front-Load
A front-end load fee is a commission charged at the initial purchase of an investment. This fee is deducted from the purchase amount and therefore lowers the amount of money actually going into the investment.
Back-End Load
The opposite of a front-end load fee is a back-end load fee, which is deducted from the profit or principle of your balance when you sell an investment.
Level Load
A level load fee is charged annually over the entire life of the investment.
Action Step: Analyze Your Investment Fees
Take these steps to analyze your investment fees:
Write down all of the ticker symbols for your investments (these will be the 2-5 character symbols that represent your investments, for example the Vanguard total stock market index fund is VTSAX).
Track down all the fees associated with the fund. These will be listed in the fund’s documentation provided by your workplace retirement plan company (feel free to call and ask them to go over the fee structure with you). You can also Google the ticker symbol, but it may not list all the fees so it’s best to check the documentation that came with the fund.
Flag any investments that have a management fee, back-end load fee,** level load fee, or an expense ratio above 0.25%. Unfortunately if you’re in an investment with a front-end load fee, you’ve already paid it by this point. However if you’re not yet invested in anything, pay careful attention to “load funds” or mutual funds that have front-end, back-end, or level load fees and avoid them at all costs.
Just write everything down for now. We’ll tackle choosing the best investments for you in another challenge and you’ll be able to trade out any high fee investments for lower fee ones at that point.
Check back in tomorrow for your next challenge: Choosing the right brokerage firm for you.
*This is based off the rough calculation of $98,567 / 30 / 12 = $274 and putting that monthly amount into an investment calculator with an 8% return over 30 years — in real terms you’d calculate what 1% of your portfolio balance each year would have been and plug that number into the calculator each year for 30 years, but that was too much math for my taste.
** Note that you will still have to pay a back-end load fee if you sell your investment, however it’s best to sell it when the balance is low so you’re not forking over too much money.
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