Common costs to be aware of while investing
Cost is inherently something most of us try to reduce as much as possible. And we try to do this time and again in our day-to-day life. Be it shopping during the sale season, opting for tap water over costly bottled water ($2 over a period of time can add up to a considerable amount), going for street food over costly food courts in malls, or making the best of freebies from commercial products and services, we never cease to cut costs wherever possible. This is the nature of most cost-conscious/money minded people. It’s only surprising how we tend to ignore the ‘cost’ aspect while investing.
One reason for this could be the opportunity investments provide for making more money. After all, at the end of the day, investing in financial options is not far from gambling. The idea of fetching favorable returns is so alluring that we tend to ignore the allied costs involved in the process.
This is somehow paradoxical to our regular self that aims to cut costs wherever possible. Greater investment costs would translate to lower returns and that is not something you want.
Let’s take a look at the most common costs that are applicable to the investments you make.
Common costs while investing
Fund Management Fee
Also known as fund management charges, a fund management fee is a fee that a fund manager charges you for handling your funds in the most profitable way. This fee is a compensation for the time and effort these professionals give to selecting stocks and managing your funds. A fund management fee is alternately called an advisor fee. As per an article in the Forbes magazine, “the typical investment advisor charges 1% per year on the first million dollars of assets under management. This cost may be higher or lower depending on the amount being managed.”
Timothy Ho of Dollar and Sense explains this further and states that “you can expect fund management fees to be about 1 to 1.5% per annum. That means for every $10,000 worth of investments that you hold in a fund, you should expect to pay between $100 to $150 each year.”
All types of funds that are managed by a professional on your behalf incur costs. Even passively managed funds such as ETFs incur advisor fees.
Sales charges are the most common type of costs you will find. Nearly all the investments you make will incur sales charge in varying capacities. Unit trusts in Singapore can charge up to 5% as the initial sales charges. For example, if you invest $ 1000, then only $ 950 will be spent in your funds and $ 50 is considered to be sales cost.
There are different types of sales charges that you can incur such as front end, back end, and deferred. Investopedia defines front-end costs as a sales charge that is paid as a percentage of the purchase price that is paid at the time of investment. A back-end sales charge is paid as a percentage of the selling price. And a deferred sales charge is typically a back-end sales charge that is often charged during a specific timeframe with a decreasing rate over time.
This fee is relevant for those of you who invest abroad through a local broker or invest in an investment-linked insurance policy (ILP). Pay attention to any admin charges that you might incur. There are many investment accounts that charge you a custodian amount as maintenance fee. This can be a fixed amount or a percentage of your portfolio. In addition to that, some investments may even charge you a monthly administrative charge of up to $10.
Spread is an important cost that you should be aware of if you buy and sell your investments regularly. What it means is that when you buy into an investment, you tend to pay more compared to what you would receive if you sell the investment at the same value. It’s just like changing currency at the money changer.
For example, you may be charged $1,000 to buy a unit in a fund while sales of the same unit may net you only $950. The $50 difference is the spread you are paying. With all things being equal, the higher the spread, the more money you lose on each transaction.
These were some of the allied costs involved in various investment options. Certain investment options have higher fees than others. You need to be aware of these additional costs while investing in Singapore.
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