Investment fees are eating your returns

How are your investment fees affecting your returns? A new site called the WealthGame.ca has the answer, but you may not like what you learn.

Larry Bates is the founder of WealthGame.ca, which aims to draw attention to the impact fees have on your portfolio. The 25-year financial services industry veteran was tired of watching people entrust their hard to earned money to the banks and fund companies only to see half of their gains lost to fees. That might sound like hyperbole, but when you run the numbers half might be an understatement.

Consider the following two scenarios.

Scenario 1

Let’s say you have a $100,000 portfolio earning 3% per year. Over 25 years that portfolio would more than double in value to $209,378, but that’s before fees. If the annual fee is 0.5% that portfolio will pay almost $24,000 in fees over that time. Because of the drag fees have on compounding, that gain realized by the investor is a little more than $85,000.

Scenario 2

Now let’s assume the same portfolio and performance, except this time the fee is 2%, which is in line with a typical mutual fund. Under this scenario, the portfolio’s performance is the same but more than $81,000 gets lost to fees. That leaves you with a gain of just $28,000 after 25 years.

In scenario 1 you almost double your portfolio in 25 years, in scenario 2 it would take that portfolio 70 years to double. 

• Some investors are too focused on fees »

To simplify things even more, Bates distills the impact of fees into something Bates calls the T-REX score, short for Total Return Efficiency Index. It represents the percentage of your total investment returns that you actually get to keep.

A score of 90% or above is likely where a DIY investors should score whereas if you’re investing in bank run mutual funds your score might be closer to 50%.

Long term investors understand the benefit of buy and hold because it takes advantage of the magic of compounding. But most investors fail to account for how fees affect that process. “Fees destroy the magic,” he says.

Fees are compounding at the same time as your returns, resulting in what Bates describes as a diminished compounding loss. “Because you are compounding at a lower rate it actually becomes the dominant factor in the loss,” he says. “It’s not intuitive.”

What’s your score?

While do-it-yourself investors are in the best position to control fees, Bates doesn’t suggest that approach works for everyone. Instead, he feels investors need to do a better job of measuring fees against the benefit.

The point of the WealthGame is to help everyone understand their true costs and to help them see if they are getting good value, he says. “If you don’t know what you’re paying then that’s a question you should ask,” he says.

• How much should you pay in investment fees? »

Even if you’re comfortable with your investment approach it’s still useful to know how your fees compare with similar portfolios. The table below provides a good illustration of the ranges you can expect to be in depending on your investment approach.

If you find your score falls near the bottom, (or worse—below), one of those ranges then you may want to ask yourself whether you are getting good value for your fees. 

What’s your score? Check it out at WealthGame.ca