Most investors know fees impact long-term performance, but by how much? In today’s Charts of the week, we look at the long-term impact of fees on investment returns. Differences as small as 0.34%—or 0.0034—can equate to almost $100,000 over thirty years.

Grasping the impact of fees is made harder by how they’re presented. Fund managers usually present fees annually despite the true cost taking decades to unfold. Often fees are split among so many categories that the final amount is hard to discern.

In the Product Disclosure Statement of a popular Australian equity ETF, we counted eight different fee categories, ranging from establishment fees to services fees—although not all were charged. Even the straightforward sounding management costs had three sub-categories.

To illustrate the costs clearly, we calculate the returns for five hypothetical investors who have turned 30 and started investing with $10,000 a year. They choose five hypothetical funds alike in every respect except that the annual fees range from 0.16% to 2%. Over the next 30 years they each earn the same hypothetical return of 10%.

Predictably, large differences in fees create predictably large differences in returns. The investor paying 2% in fees is $460,000 worse off than someone paying 0.16%.

But tiny differences are significant over the long span of thirty years. The difference between 1% and 1.3% equates to an extra $74,000 in retirement; between 0.5% and 0.16%, $99,000.

It’s a similar story if we track a lump sum invested in the ASX 200 over time. Had my parents invested $10,000 in 1991, when I was born, I’d be looking at $175,000 at the end of 2020, assuming no fees.

Had they paid fees of 2%, I’d be down $75,000 to $100,000. Nothing to complain about, but a hefty 43% haircut.

The impact of fees is barely visible at first. In 2001, after ten years, the difference is only $6,000. The exponential growth in later years leads to the large divergence in outcome.

While our examples are hypothetical, the fees are not. The average maximum management fee was 1.06% for the 3368 Australian funds in the Morningstar database for whom data is available.

That figure doesn’t include performance or administration fees which can be significant.
Among active managers, gold-rated Magellan Global Active charges a management fee of 1.35%, although performance fees can scoop up 10% of returns over certain benchmarks.

Bronze-rated Hyperion Global Growth Companies charges a management fee of 0.7%, although fees average 2.23% when performance fees for last financial year are included.

Costs vary among passive ETFs too. Vanguard Australian Shares (ASX: VAS) charges a management fee of 0.1%, while Vaneck’s China New Economy ETF charges 0.95% (ASX: CNEW).

These differences can be more significant than style differences like growth and value. Between 1990 and 2019, the difference in annualised returns for Australian large cap growth and value managers was 0.75%—less than the fee difference between VAS and CNEW.

Morningstar research has found that lower cost funds are likely to be better returning and longer lived. A fund’s cost ratio has consistently proved to be a good predictor of future success, according to Morningstar direct of manager research Russel Kinnel.

Fees are one of many important metrics for investors to assess, including performance, size, liquidity and management.

For those looking to investigate prospective funds, cost information is available on Morningstar Premium. Just search the fund of choice and select the “Price” tab. Our manager ratings also incorporate the cost of the fund.

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