Posted by Flora Maudsley-Barton | November 22, 2013
How to make your investments grow faster!
Q: When is £121,665 the same as £127,628?
A: When the difference is £18, of course.
Okay. It’s rubbish as a joke or a maths question but I’ve been puzzled by this for some time now.
The question I’m grappling with is ‘Should your financial advice fees be deducted from your investments, or should you pay them from your other cash?’
I wrote an article in a trade magazine recently, saying that paying from cash is better because an investment left to grow without deductions will obviously do better than an investment with deductions. That’s obvious, isn’t it?
My peers challenged me; ‘What about the bank interest foregone?’ they said.
I’ve worked it out and there is more to the question than lost bank interest.
I compared an investment of £100,000 growing at 5% per year with a 1% per year charge is paid from cash elsewhere vs an investment growing by 4%.
The first one grows to £127,628, the second one only grows to £121,665.
So far, so good. Definitely, I would prefer my investment to grow from £100,000 to £127,628. But when I add back in the advice fee paid and the bank interest foregone, it flips over. The client would have been £18 better off letting the advice come from the fund and putting up with lower growth.
It turns out that I’m a victim of my own success because the better performance resulted in a higher advice fee, £5,802 instead of £5,633. If I equalise those, the separate fee route gets back into the lead by £150.
Most clients still prefer £127,628, especially if that also puts them in control of paying the fees for services they value. That’s the extra factor that the bank interest calculation misses out.
What about if you are trustee? Or managing the money for your children? We do a lot of that. In those cases, the person paying for the advice wants the investment to do its best. They definitely want £127,628 not £121,665.
My maths teacher gave me more points for showing my workings, here they are.
Shall I leave you to draw your own conclusions? Whatever you decide, choice matters most. Whether you want to pay by deduction, or separately, you’re in control. Do what suits you. Keep asking questions until you know enough to decide.
Some points to note:
• None of the rates I’ve used are intended as guaranteed rates, or even likely rates.
• The rates are intended to be consistent with each other, ie I believe interest rates would be around 2% gross in circumstances where stockmarket growth is about 5% gross.
• In reality, neat growth of 5% or 4% per year is very unlikely. Expect losses in some years.
• You might not get back as much as you put in when you use the stockmarket but some investment strategies are definitely safer than others.
• The analysis is different for pensions, this blog is only about investments.
If this doesn’t make sense, remember it’s what we do all day. Call us on 0161 928 2706