What Are Investing Costs? | Finances

Evidence based insights into physician compensation, RVUs, contracts, healthcare economics, and personal finances. For residents, fellows, and early-career attendings.

Life and Finances, in Medicine.

What Is This About?

Investing is not free. When people think about investing, they usually focus on returns (the stock price going up or down) or how much their portfolio made in a year. These questions are common. But there is another part of investing that deserves just as much attention: How much do we have to pay to invest?

Why Should Medical Professionals Care?

This is one of the trickiest parts of investing, and something most investors don’t even consider. The returns of your investments can be high, but if your costs of investment are also high, this will erode your returns over the years. And you may not even notice it.

Expense Ratio

The most obvious cost is the expense ratio. This is the annual fee a fund or ETF charges you to manage the fund. If you have a $10,000 invested in the fund and the expense ratio is 1%, you will end up paying $100 per year. This may not sound like much. And in many low-cost index funds, it isn't. But expense ratios vary a lot between investments, and the difference becomes more important as your portfolio grows. For example, if you have $2,000,000 in your retirement investments, with an expense ratio of 1% you are paying $20,000 every year, just for holding this fund, even if you don’t buy or sell more of the same shares. In 10 years, you would be have paid $200,000. And that is assuming no growth of your investments.

AUM Fees

There are other costs as well. Financial advisors for example, charge a percentage of Assets Under Management (AUM fee), every year. It is their fee for managing your portfolio. For example, an advisor charging 1% annually may not sound like a lot, but if you do the math your financial advisor may be receiving approximately $2,000 per year to manage your $200,000 portfolio. And if your portfolio includes mostly passive investments there isn’t much management to be done. That fee is separate from the expense ratios of the investments themselves.

Transaction Costs

These have decreased significantly in recent years with the rise of no-commission trading, which many companies offer now. Nonetheless, certain mutual funds still have sales charges, called loads. And some investments have small trading costs whenever you buy them or sell them.

Taxes

Taxes are another major cost. In a taxable brokerage account, dividends, interest, and capital gains you get are subject to taxes. On the other hand, the frequency of your trading can also affect how much you pay. The more frequently you trade the larger your tax burden could become. On occasions, a strategy of buying and holding your investment long-term can be more tax efficient. You also pay taxes when distributions of your tax-deferred accounts start, like a 401(k) or IRA. And if your distributions start when you are in a higher tax bracket, or you live in a state with higher taxes, then your retirement money may not last as long as you would expect them.

Poor Investment Behavior

Unfortunately, this is a common and less obvious cost. An investor buying after markets rise and selling when the market downturns (buying high and selling low); or constantly changing strategies; or chasing the latest trend in investment, can easily cost you more than any expense ratio.

The Bottom Line

For medical professionals these costs matter a lot because our capacity to investing can span decades. If you start investing in their 30s or 40s you may have money invested well into your 70s or 80s. And what seems like small annual costs, can in fact compound over decades and become very large numbers.

Key Takeaways

1. Costs are part of investing. They help keep the system running.

2. Always consider costs when investing. This is one of the few factors you can control.

3. By knowing the costs included in your investments, can better set up your portfolio.

“Costs define how much you keep.”

MD&D Quote of the Day

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