Don't Let Shiny Investment Funds Lure You to Higher Fees

If you aren’t aware by now that ordinary investors won the battle against onerous fees, you weren’t an investor back in the day. But the financial gurus on Wall Street are introducing a whole new brand of shiny investments meant to tempt us into paying those dreaded investor fees.

Simpler Times

For the younger folks among us, you probably found that becoming an investor was as easy as opening a FREE brokerage account, and then buying one of those tantalizing low-cost, COMMISSION-FREE index funds that track a highly diversified broad market as the centerpiece of your portfolio. Daring to be Average, I call it. And countless studies have shown that this low-cost S&P 500 or Total Stock Market index fund approach beats almost every professional investor (including those canny day traders) over the long run…assuming you have the courage of your convictions.

Yes, it is true that over the past few decades…say, since Vanguard appeared on the scene back in the 1970s…fees of all sorts have been declining – much to the chagrin of Wall Street. But pay attention, folks - reversing trends are rearing their ugly heads.

Hype Men

You may have heard about Wall Street’s financial gurus generating hype about cryptocurrencies, artificial intelligence, private markets, etc., to try to lure today’s investors back to those past decades of high-cost trading commissions and assorted fees. These gurus are highly skilled at marketing speculative, high-cost investments that promise — but rarely deliver — higher returns than those of more traditional index funds, which have served us well for many years now. Today’s financial publications are filled with articles about crypto, AI, private assets, and the related hype. The usual campaign drivel will be difficult to resist for those among us seeking quick or outsized gains.

Take a look at some patterns emerging in exchange-traded funds (ETFs), the innovative offshoot of Vanguard Group’s low-cost 1970s-era index fund, a John Bogle campaign that sparked the indexing revolution. Currently, the three most prominent and most popular ETFs are S&P 500 funds (totaling a startling $2 trillion in assets). Why such popularity? Probably because these ETFs have an average expense ratio of around 0.05% a year and ZERO COMMISSIONS to trade. Those low costs alone suggest why ETFs currently hold a 35% market share of combined U.S. assets in ETFs and open-ended mutual funds, according to Morningstar, and are likely to remain the most significant player in the market at current growth rates.

Faded Rose

But the bloom is gradually wearing off the rose. Surviving funds, nearly all of which are index funds launched back in the 1990s and early 2000s, have an asset-weighted average expense ratio of 0.13%. Since the turn of the century, Wall Street insiders have gradually encroached, transforming this low-cost index refuge into a more high-priced, Vegas-like casino. Of the 2,500+ ETFs launched so far this decade, only 25% are index funds. And the ETF group’s average expense ratio has wiggled its way up to 0.39%, nearly matching mutual funds, which have been working hard to lower fees. Get the picture?

Shiny New Funds

The trend is clear – and it’s not favorable to investors seeking to maintain the PDQ Principles of investing (Patience, Diversity and Quality), which is an approach that maintains a reasonable element of liquidity. This decade’s shiny new ETFs are almost exclusively a “new brand” of speculative funds that include digital assets, inverse and leveraged, derivatives-based, and associated emerging AI technologies. The likely winners are the fund companies that are jacking up costs.

401(k) Options

And there are other tempting enticements on the way. Even the federal government is getting in on the act with discussions that could allow secure 401(k) funds to invest in private (and more illiquid) assets and cryptocurrencies. President Donald Trump recently signed an executive order, which will make it easier for owners of 401(k)s to invest retirement savings in outside public markets (e.g., private equities, cryptocurrency and private real estate).

The President is acceding to hedge funds and private-equity firms who’ve long desired to tap into the massive 401(k) money pool and other defined-contribution plans. More than 90 million Americans collectively hold $12.2 trillion of publicly traded companies’ mix of debt and equity in 401(k) plans. The question is, will employers offer these more difficult-to-buy-and-sell choices, which will likely come with higher fees? Mutual funds in 401(k)s are already more expensive than those outside of retirement accounts. How much more do you suppose private assets and crypto funds would attempt to extricate from workers’ vital retirement savings? In the investment world, higher fees usually mean higher risks. Remember, costs matter. As Bogle often reminded us:

In investing, you get what you don’t pay for.

That’s not to say that the roughly $8 trillion managed by private-equity funds and private-credit firms should be off limits to average investors. But how about this? Suppose Wall Street’s financial gurus and the BlackRocks, Fidelities, Schwabs and Vanguards of the world truly believe in the investment merit of crypto, AI and private assets. Shouldn’t they charge fees comparable to stock and bond index funds…and provide at least some element of liquidity? There should be no reason why their highly anticipated private asset funds and other gimmicks shouldn’t conform to today’s low-cost environment.

In Sum

Remember this, folks. Regardless of this unsettling trend toward higher costs and an increasingly speculative, less liquid environment of “opportunities,” today’s investors will still have the option to build wealth the old-fashioned way – through the steady, reliable approach of highly diversified, low-cost index funds that track broad markets.

They’ve served us well for several generations and will continue to do so. Just keep the faith and take it with a grain of salt when Wall Street’s high-priced temptations come your way.