Anyone who has invested has had understandable questions such as “What are my fees?” “What are my expenses?” and “What are my investments costing me?”
Answering these questions directly is difficult, due to the wide variety of terms, phrases and conditions that have been created by investment professionals and the financial industry, itself. Has the industry, as a whole, created this confusion intentionally? We think it is a very fair question. For example, some financial advisors would like you to believe that fees and expenses are the same thing.
This misunderstanding has, at times, allowed financial advisors to cloak their true costs and, thereby, shield the investor from understanding how much it is really costing the investor to work with a particular financial advisor or to hold a specific fund.
Investment Professionals and Commissions: Let’s Talk About It
Let's summarize some of the costs of making investments, starting with commissions. This is the fee that investors are very familiar with because it’s the price you pay for a stockbroker or financial advisor to invest your money.
Investors normally pay a commission whenever they buy or sell a security such as an individual stock or exchange-traded fund. Commissions are often high to begin with, and they can accumulate quickly since you can pay a separate commission for each and every transaction. It is not uncommon, at all, for advisors to buy and sell all of the positions in an investor’s portfolio at least three times each year.
Why would they want to create a 300% turnover? Surely they understand that this tactic can generate higher taxes for the investor. Could it be that the primary reason for this high turnover stem from the fact that some advisors benefit financially from both buying and selling equities for their client? Sounds like a potential conflict of interest.
Wealth Management Fees: Undisclosed 5% Front Load Fees
It is widely accepted that investors may pay an expense just to open an account with an investment firm. But many firms also charge a front load, unless you’re investing in institutional funds or are willing to invest far more than the firm’s required minimum.
A load is an expense that you pay when you make your initial investment in mutual funds that may be as much as 5.75% of your investment. It's very important to note that you likely won’t see a load expense on your statement. Think about that for a moment.
How comfortable are any of us with having undisclosed fees? Would we be comfortable buying a car and having part of the price hidden from view? Your advisor may communicate these expenses to you verbally. Otherwise, you'll have to locate them within your hundred-or-so-page prospectus. Good luck with that.
The Cost of Investment Planning: 12b-1 Fees
Mutual funds have other fees in addition to loads, such as management fees and 12b-1 fees, which are so-named for the section in the Investment Company Act of 1940 that describes them. Bondholders must also pay additional fees on their investment that don't appear on their statement. These additional fees that investors may pay include transaction fees, custodial fees, advisor fees, management fees and Automated Clearing House fees, commonly known as ACH fees.
Again with the lack of transparency! Why on earth would anyone be comfortable paying for a product or service when the process of how the final cost was arrived at was shrouded in secrecy? It would be like going out to an expensive restaurant and being told that you could order the food, but you will not know the price.
But My Investment Professional Says He's Not Charging Me Anything!
Let's consider the incongruity of this for a moment. It assumes that a financial institution is interested in not charging for their services. With all of the money that is invested, managed, created, and spent by Wall Street, does the idea that an advisor or an investment firm would willingly not charge her clients for services rendered? It doesn't hold up, even under brief scrutiny. What is reasonable to expect, however, is that any investor should completely understand for what they’re paying.
The most sensible solution to the problem of hidden investment expenses is to use a wealth management advisor that only charges a fixed fee and is committed to complete transparency of the investment’s costs. An investment firm should summarize all costs that the investor pays in writing, and it should also communicate those costs verbally and in writing at the time of the initial investment and during annual reviews. This solution sounds simple because it is.