Professor Burton Malkiel of the Rebalance Investment Committee on how lower fees mean a higher net return for investors. See more about lower fees and other cost-effective money management ideas.
Fees are very important because what the investor gets is what the investment manager has earned, less the fees charged. If an investment manager earns 6% for you, but charges 2 percentage points in fees, what you get is 4%. I think any of us who talk about investing need to be very modest about what we know and don’t know. But the one thing about investing that I am absolutely 100% sure of is, the lower the fee I pay to the purveyor of the investment service, the more there’s going to be for me.
Morningstar, which is a company that rates mutual funds — and they give them one, two, three four, five stars — did a study to see how good their star ratings were. Did five-star funds do better than two-star funds or one-star funds? And what they found was, it didn’t make any difference. The stars didn’t predict at all. Then they decided, we’d try to see what did predict.
And what did predict the return you’re going to get from an equity fund or a bond fund, the best predictor was the expense ratios. The lower the expense ratio charged to the investor, the higher the net return the investor gets. And, of course, the quintessential low-cost funds are index funds, the ones that we use in Rebalance, because competition has driven the cost down so that you can buy the whole market portfolio and pay an expense ratio of five one-hundredths of 1% or less.