When entering a transaction or hiring a financial advisor, fees are an important element to consider. No one wants to pay a high fee for poor service, regardless of their income level.
However, many wealthy individuals and families prioritise their focus on fees, without taking other factors into consideration. That’s because fees are often (but not always) regarded as something one can negotiate, whilst the results may not be readily apparent.
For instance, an actively managed stock fund will typically have higher fees than an index fund or ETF that simply tracks market performance. So, you need to be more diligent on whether the active fund has outperformed the market over time, net of fees. If the outperformance (or alpha) is significant, you might want to invest with the active manager, regardless of the higher fees, whilst understanding that past performance is no guarantee of enjoying the same results in the future.
Analysing your fees
As an independent professional, I am often asked to assess the performance of money managers, advisors, and family offices, since engaging the right advisors is the most critical aspect of long-term financial performance. My goal is to protect clients from making uninformed decisions.
In virtually every engagement, the fees are a point of discussion and are analysed. This is a more complex process than simply looking at a line item on a financial statement. For instance, how is a financial advisor or family office calculating your fees? Are there commissions or sales charges attached to transactions? Are there third-party fees that aren’t immediately obvious in your statements?
If you have a family office, the assessment of fees isn’t that straight forward. One needs to determine the amount of assets, the objectives of the family office, and the family offices’ roles and responsibilities to ensure you have the right people around the table. Then ask yourself, do I have the right number of professionals, based on the size and objectives? What are the current salary conditions in my local market, and what premium am I prepared to pay to attract talent? What are the incentives to maintain and retain talent; it’s not about overpaying but paying your key advisors appropriately. Remember to allocate money toward expenses and decide what is acceptable and what is not.
Fees shouldn’t be looked at in a bubble; it is essential to assess performance to make well-informed decisions about the financial investments and/or advisors. Once again, this can be a challenging task and you need to ensure you ask the right questions.
Let’s say one of your stock fund managers had a great year and outperformed the market average. Was this due to the manager’s expertise or did they take too much risk? You should understand the manager’s research and selection process, to better understand whether there is a good probability that the above-average performance is likely to continue in the future.
While no one can always outperform the averages, there is no reason to retain a manager who consistently underperforms the market. In that situation, a potential solution is to shift your assets to a low-cost index fund (ETF) or find a different manager with a better long-term track record.
My years of experience have taught me that you shouldn’t make important financial decisions based on fees. Low fees may seem like a bargain, but it may translate into sub-par managers or advisors. On the other hand, high fees do not always correspond to good results or excellent service.
Regardless, you should review all factors: fees, performance, track record, and reputation and assess the value provided by your managers and advisors on an informed basis. Don’t underestimate the importance of informing them that you are tracking their results on a regular basis, as competition and regular reviews will keep them on their toes and discourage them from becoming lethargic in their responsibilities.