Overpaying fees and expenses an area of investing that requires dedicated focus. Twice last year, our firm changed ETF providers due to cost versus benefit. The reduction of fees does not guarantee outstanding performance, but unwarranted or necessary fees and expenses diminish annual returns. Always strive to reduce friction. Friction is anything that creates unnecessary hurdles for your financial planning.
The investment world is a multi-tiered business model. Your needs may require some or all the components of “Wall Street.” There are brokers, advisors, custodians, banks, insurance companies, and others who get paid commissions or fees. Regardless of who you utilize for your needs, firms get paid for transactions. Not all firms get paid on every transaction, however.
The salesforce tends to be brokers who are paid commissions. There is a rapid increase in fee-based advisors leaving behind the commission model. Everything that has a cost should have an accompanying benefit. You don’t need a broker or an advisor, but they can increase your confidence in navigating the financial complexities.
Unless you keep the money in cash at home, you will need a custodian. A bank, insurance company, mutual fund, wirehouse firm, or clearing firms like TD Ameritrade or Schwab is required for retirement assets and usually hired to hold other assets as well. They have significant buildings and workforce for a reason.
The custodians are going to hold investments on your behalf. Stocks and bonds should not have ongoing expenses once purchased. Mutual funds and ETF’s (Exchange Traded Funds) commonly have documented annual fees. In mutual funds, there are also unknown annual costs derived from the fund’s trading costs and operation.
An insurance product, such as an annuity, adds even more layers of fees and expenses that will reduce your annual performance. Arguably, they may provide a buffer in periods where the stock market declines. You get to determine if the cost is worth the benefit. You can find a checklist of things to consider when buying an annuity at www.yourlifeafterwork.com.
All custodians make money from transactions in some manner. Banks make money by accepting your deposit and charging your neighbor a higher interest rate to borrow the funds. Banks make money in multiple ways. They are a necessary part of our economy though fees and expenses can vary.
The NYSE and Nasdaq earn the majority of their money by trading stocks. Every share of stock has a bid price – what they will buy it for, and an asking price – the price they will sell it. The spread between the two numbers is the profit margin for Wall Street. The greater the daily volume, the happier their business model.
Your job is to determine what pieces of the financial puzzle are necessary, beneficial, or just convenient for you. There are parts you can do without, but the benefit might be worth the cost. Many excessive fees are unnecessary. The right decision today may be the wrong one in the future. Pick and choose wisely.