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  • Chris Cyndecki CFA, CFP®

Investment Fees (Part 2)

In the second part of this blog series, we'll take a look at a few of the implicit costs of investing. These costs are not easily observed and can be difficult to quantify. Portfolio Turnover Turnover is a measure of how frequently a portfolio manager buys and sells assets in a fund within a 12-month time period. Every time a manager buys or sells a security within the fund, the brokerage firm assesses a transaction fee. A fund with a high turnover ratio incurs more fees than a fund with a lower turnover ratio. These turnover costs are not factored into a fund's net expense ratio and cannot be found anywhere in the fund prospectus. However, turnover costs are reflected in the fund's overall performance. Several studies have attempted to quantify the impact of portfolio turnover on fund performance. Mark Carhart's analysis in "On Persistence in Mutual Fund Performance," suggests that a 100% increase in portfolio turnover equates to a 0.95% reduction in performance annually. Several factors contribute to this reduction including: brokerage fees, taxes, and asset liquidity. To find the turnover ratio of the funds in your portfolio, view the fund's prospectus or perform a fund search on Morningstar's website. Time Once individuals decide they are ready to invest, they face a process similar to the one outlined below.

  1. Choose a brokerage firm and open brokerage accounts (research required)

  2. Fund the account with a lump sum or create plan for making periodic monthly/quarterly contributions

  3. Determine risk/return objectives based on investment goals

  4. Evaluate time horizon, risk tolerance, and any other pertinent factors

  5. Decide on an asset allocation using above factors (research required)

  6. Determine which funds to use for portfolio implementation while factoring in brokerage fees (substantial research required).

  7. Purchase chosen investments in brokerage account while taking into account taxation of chosen securities

  8. Create a plan for consistently investing recurring contributions

  9. Elect a rebalancing strategy to periodically re-align portfolio with the original target allocation

  10. Revise portfolio strategy for changing macroeconomic factors (e.g. rising/falling interest rates)

As one can see, the investment process can become overwhelming, given the copious decision points, research requirements, and conflicting expert opinions. With the plethora of options available, many investors either give up, or the task falls to the bottom of their priority list. Investing in a well diversified portfolio can be a tremendous tool in achieving the financial goals you set for yourself and your family. However due to the many potential pitfalls (e.g. fund expenses), we recommend consulting with a qualified financial professional before implementing any portfolio.

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