31 Jan 2025
Investment: What are the different costs when I invest?
Financial Services doesn’t always have a great reputation when it comes to people feeling that they pay for what they can see. No-one likes to feel that things are being buried in the small print (a feeling made worse by regulatory requirements which mean that most investments are accompanied by a swathe of seemingly impenetrable yet obligatory appendices!)
But these days, transparency has increased hugely, and anyone who is placing an investment should have readily available to them a full breakdown of the costs and charges relating to their proposed or actual investments.
Here, we will look to explain what some of these charges can be, and what to consider or look out for.
Any new or on-going investment may be subject to a range of fees or charges, including:
- Platform or custodian fees
- Fund management fees
- DFM or portfolio management fees
- Advice fees – which can be both initial and on-going
- Other fees – some of which should be carefully considered
Below is a brief explanation of what each of these costs is for.
A platform or custodian is like the bank account where your investments are filed. These days they are often digital, like online accounts, and keep a full transaction record of money transferred in, costs, investment returns such as dividends or capital gains / losses, and money transferred out. The platform does not own your investments (which are typically held in a segregated trust account). However, cash balances within investments are treated in quite varied ways by platforms – with some platforms keeping most of the interest earned on cash balances held by clients, whereas others pay much more of this over to clients.
Platforms include self-service offerings direct to retail customers, as well as those that are only available through a financial planner or adviser. In both cases, there are usually percentage based fees charged to your investments – some platforms also have other monthly or quarterly administration fees associated with certain products (such as pensions or SIPPs). With digitalisation, platform services have become increasingly competitive and where once platform charges in excess of 0.4% were not uncommon, these days most clients with more than £200,000 should find that their financial planner can secure them lower costs without compromising on the quality of services (carrying out transactions and managing investment orders for example). Many adviser-led platforms can now also offer family linking: so that members of a family can benefit from reduced charges based on the total sum invested by the family as a whole on a single platform (without balances or any other private information being shared with each other).
Fund management fees are charged by the firm that actually makes the investment choices. Various acronyms have been used to describe these fees, but these days the most commonly accepted is the OCF (On-going Charges Figure) which gives an annualised cost of managing the investments held in a fund. This figure can vary depending on total numbers of transactions undertaken and the costs relating to the transactions – these tend not to be the largest proportion as most fund management companies bring considerable scale advantages to bear on their transaction costs (a stockbroker to a pension fund doesn’t charge the same proportionate fees as they would to an individual investor).
Much more important, is that different fund management styles can bring very different costs of management: purely passive funds can cost as little as 0.09 to 0.12% as these are run in a very mechanical way to mimic the index the fund tracks (this fund management style does have some potentially significant disadvantages for investors). On the other hand, actively managed funds, sometimes with swashbuckling managers who rise and fall as darlings of the industry depending on their skill, or if you believe in statistics, their luck, can charge more than 1% in management fees. Over time, very few of these active funds consistently beat their index for a variety of reasons (which we’ll have to leave for another newsletter) but one of the biggest factors is the drag that higher costs impose on long-term performance.
You can of course avoid fund management charges by directing your own investments, but then you’re very likely to be taking on professionals at their full-time job, in your spare time and with far fewer resources and much less financial power at your disposal.
DFM (Discretionary Fund Management) charges relate to paying investment professionals to make decisions about buying, selling, and monitoring investments on behalf of the investor. For example, a DFM will review and adjust the different funds held within a portfolio or range of portfolios. They may also from time to time adjust the relative proportions of different funds within a portfolio, ensuring that a client’s investment risk does not rise too high beyond what is appropriate for them, as the most successful of their investments grow faster than others. This can seem counterintuitive, but left unchecked, a portfolio can become much more volatile, or less diversified, than the way it was originally designed. Less than a decade ago DFM charges might have averaged 0.5 – 1%, but these days they can be less than 0.25% – this does depend to some extent on whether a portfolio is using active or passive funds as the intensity of oversight required can vary accordingly.
Not all client portfolios benefit from the oversight of a DFM, but this typically means that rebalancing and adjusting a portfolio must be done on an ad-hoc basis with each individual client’s consent (sometimes known as ‘advisory’ portfolios). While slightly cheaper, this can lead to a client only having their portfolio adjusted on an annual basis, so that if a firm’s overall investment approach or portfolios are adjusted just after you’ve seen your adviser, it may take nearly a year for your portfolio to be brought up to date. Or worse, you may end up every year being nearly a year out-of-date compared to other clients of the firm.
Financial Planning / Advice fees – these can take many forms, and when our soon-to-be launched new website is published we’ll have a much more in-depth look at these. But broadly speaking, a financial planner who works with you will charge a fee for their services. In some cases, the adviser relationship with the underlying investment managers does need to be scrutinised, as the person giving advice may actually be an employee of the firm that manages the investment funds held in client portfolios.
Financial planning often involves an initial fee for all of the work that goes into getting to know you and understand your circumstances, so that any recommendations made are tailored to your needs. The ways fees are charged can take many forms, and I’ve seen firms use a flat fee, a percentage fee, fees based on an hourly rate for work done, or even a monthly retainer for the duration of time it takes to gather all of your information. Thereafter, you may elect to continue to work with your financial planner on an on-going basis. This allows you to have regular access to them as your life changes, and your planning goals and needs evolve over time. It also allows you to benefit from your financial planner’s knowledge and updated information around changes in investment products, taxation and regulations, the macroeconomic and financial landscape, as well as providing a sounding board and accountability partner for achieving your investment and savings goals.
Each of the fees you pay will add up and yes, overall they do form a drag on your total potential investment returns. However, in many cases, wise counsel and clear strategy can result in far better outcomes than if you seek to avoid costs at every turn. The best outcome is a happy balance of value for money in which quality service and peace of mind are delivered at a fair and competitive cost.
If you want to discuss this more click here to book a free initial conversation
https://calendly.com/duncan-bw-hoebridgewealth/30min
NOTE: Investments can go down as well as up in value, and you may get back less than your original investment. None of the above is financial or investment advice and you should speak to me or someone else professionally qualified to give you advice specifically tailored to your circumstances.