eTrade recently produced a video about the true cost of financial advisors charging the typical 2 percent fee.
How 2% becomes more than your initial investment
Their ad was good start, but here are the cold, hard numbers. Over a period of 20 years, the advisor ends up collecting as much or more than your initial contribution. No wonder so many fund managers are billionaires. They take the sure bet. The clients take the risk.
The Power of Compound Interest
As interest rates fall, investors and pension funds have been told they must take more risk to get higher returns. So why is the fund manager content to earn a 2% fee? Because they know the math.
The chart above doesn’t look like much, but consider the data. The red line is the S&P 500 Index Level that you see in the newspaper. The blue line is the S&P 500 Total Return Index reflecting dividend reinvestment.
The average investor is never shown the total return index, and for good reason. $100,000 invested on January 1, 1999 became $124,357 by August 31, 2011 on a total return basis. $100,000 invested in the index level became $99,159.
The inescapable conclusion? The average annual dividend yield for the S&P 500 has been 1.73% since 1998. That’s a bit less than the cut fund managers pay themselves annually. Over the years, they become rich. The clients? Not so much.
In 2005, billionaire hedge fund honcho Ray Dalio (see How Ray Dalio built the world’s richest and strangest hedge fund) wrote about The Moneyshuffler’s Vig (sometimes called The Skimming Operation):
The money that’s made from manufacturing stuff is a pittance in comparison to the amount of money made from shuffling money around; 44% of all corporate profits in the U.S. come from the financial sector compared with only 10% from the manufacturing sector.
. . .
We see it anecdotally — e.g. by who lives in the big houses in the expensive neighborhoods or who shops at the expensive stores. While in decades past it used to be the captains of industry, now it’s the money shufflers — the folks who handle OPM (other people’s money) and earn their vig off it. From low to high on the hierarchy, the money shufflers at or near the peak are a) bankers, b) investment bankers and investment managers, and then c) the 2 and 20 crowd (hedge funds, private equity firms, etc.). Now, the notion of one’s child wanting to be a doctor sends chills of fear down parents’ spines, engineers gravitate to plying their craft on money instead of real stuff, and $600/hour lawyers are depressed (to the point of either padding their accounts or working nearly 24/7) in their failed attempts to stop falling further behind.
This growth in the money shuffler’s profits as a percent of GDP has come partially because a) financial assets and liabilities as a percent of GDP have risen steadily and partially because b) the average money shuffler’s profit per dollar shuffled has gone up (largely because those with the big bucks, particularly institutional investors, have gone from investing in the .25% to .75% fee stuff to investing more in the 2% and 20% stuff). The only thing that has been a slight drag on the otherwise rapid growth in the profitability per money shuffler has been the big increase in the number of them.
Investors are viewed by the average investment manager as one thing, and one thing only: pesky gatekeepers of assets that need to be gathered, multiplied by 2% per year in fees. Between low bank interest, market gyrations and fees, the headwinds are significant.
Protect Capital. Eliminate Vultures. Today.
If you are happy with your investments, do nothing. If not, it’s time to harness volatility, protect capital and eliminate vultures. Take back your account today because the fund manager is basically taking the guaranteed dividends, leaving you with all the risk.
Go with an all-weather strategy with a proven track record.
Teresa and Pete