Cost control: A firm focus on fees is crucial for investors

Cheap tracker funds aiming to mimic the returns of indices on the major stock exchanges are increasing in popularity
Keep a close eye on administration and dealing costs

In times of market turmoil, it’s easy to become absorbed in the details of asset allocation, stock selection and risk hedging. And while these factors are leading determinants of the long-term performance of your portfolio, it’s crucial not to overlook the importance of keeping a lid on the costs of investing. Failing to do so could see returns on even the best-performing portfolios seriously eroded over time.

The numbers sound small – 0.25 per cent, 0.5 per cent, 1 per cent. But as an Investor Bulletin released last year by the US Securities and Exchange Commission (SEC) demonstrated, the long-term effects are insidious. Over a period of 20 years, the report found, an annual fee of just 0.5 per cent reduced the final value of an initial $100,000 (£62,671) investment by $10,000 when compared to a 0.25 per cent fee (assuming 4 per cent annual returns). An investor paying a 1 per cent fee on the same investment, meanwhile, would be $30,000 worse off than someone paying 0.25 per cent annual fees by the end of the same 20-year period.

The fees you pay will vary depending on how you invest, says Jason Hollands of Tilney Bestinvest, “depending on whether you self-manage your investments or have a portfolio run for you on a discretionary basis.” Here are some of the most common charges to watch.

MANAGED PORTFOLIO FEES
If your investments are handled on a discretionary basis by a bank, wealth manager or financial adviser – since the introduction of the FCA’s Retail Distribution Review, some institutions have pulled out of this business for all but the wealthiest clients – you’ll likely be charged a headline annual management fee of between 0.75 and 1.5 per cent of the value of the portfolio.

Research by Nutmeg found that someone who invested £50,000 for 30 years with a 0.75 per cent fee (its all-inclusive charge for a portfolio of this size) would save £16,316 compared to someone charged the industry average for discretionary portfolio management (1.36 per cent), assuming an average annual return of 5.8 per cent and no additional contributions.

But while hunting for the lowest fee should allow you to keep more of your investments’ gains, Hollands also recommends looking past the headline rate to make sure there aren’t any add-on costs.

Not all discretionary management fees are all-inclusive. “Some also levy transaction fees, or charge separate admin fees, while others incorporate all of these into the single fee,” he says. And some also include financial planning advice rather than pure portfolio management, potentially justifying a higher fee if you require such services.

PLATFORM AND FUND CHARGES
If you’re using a platform to manage investments yourself, headline (administration) fees will typically be lower, but you may be caught out by a range of other charges. The first and potentially most important choice, says Interactive Investor’s Rebecca O’Keeffe, is whether to go with a flat or percentage rate for the admin fees levied by all platforms. “Flat fees are a much better option for investors with existing large portfolios, but are less attractive for those just starting out,” she says. Some charges will be higher because they include market research or some other form of assistance, so make sure that you’re only paying for what you need.

Next are the fees associated with buying individual funds or stocks. Most platforms get rid of the “initial charges” that you’d usually incur when going straight to a fund manager, says Hargreaves Lansdown’s Adam Laird, but it’s worth checking to make sure. The platforms will also charge you for each transaction (this is the dealing fee, but is sometimes called a transaction fee, and is often charged at a flat rate of roughly £10 per transaction). Laird says that finding the lowest rate is particularly important for investors who like to trade frequently, with many platforms offering a discount to regular investors.

The managers of the funds you buy through the platform will also charge a fee for their services, and this can vary hugely depending on the product. A “bog standard” equity fund, says Hollands, will typically charge around 0.75 per cent for actively trying to beat the market. Passive investments like index funds and exchange-traded funds, on the other hand, can be as cheap as 0.1 per cent on an ongoing charge basis, and are growing in popularity. However, these investments purely aim to mimic the returns of a stock index – the FTSE 100, for example – and won’t give you the chance to outperform the wider market.