So I have my retirement in two funds with an expense of about 0.35% each. I also have the option to choose low cost funds at 0.03%. My question is, over 35 years how much are the higher cost funds going to cost? I originally chose the 0.35% fund because Vanguard is reputable and it consistently beats its benchmark net of fees. Is my logic off?
We’d have to know more about the funds. Are they pretty much identical except for the expense ratios? (e.g., allocation of stocks vs. bonds in the fund, domestic vs. international, large cap vs. small cap etc.) For example, I have a target date index fund (TDIF) with a 0.12% expense ratio and a US stock market fund with a 0% expense ratio. I know having a TDIF is safe and reallocates automatically approaching retirement but for some reason I wanted to also “try” the 0% expense ratio fund. Even though I’d pay less in fees in the long run, going forward I’m thinking of just sticking with the TDIF and focusing on increasing my investments.
Okay that makes sense and yes, fair question. The low fee funds are US Large cap and US Mid cap. The funds I’m currently in are Vanguard funds with an S&P 500 benchmark and the other with a Russell Mid growth. I hope that helps.
Hey Michael!
I would definitely dispute the above statement. Basically there are almost NO actively managed mutual funds that consistently beat their benchmarks net of fees. That’s the unavoidable truth of an efficient market. We basically can’t invest in “just the good” funds because we don’t know what those are ahead of time. Funds that did happen to beat the market in the past are no more likely to do so than other funds in the future.
That said, those Vanguard expense ratios are very low (0.35%) and they’ll probably behave very similar to index funds. But for me, why pay higher fees and introduce uncertainty (will or won’t this fund beat the market?) when you can guarantee yourself your fair share of market growth by simply buying and holding index funds.
That said, the 0.35% vs 0.03% fee really won’t make a HUGE difference even over a long period of time. If we assume the higher fee fund will perform the same as the market, here’s how the returns net of fees would look:
$500/month for 40 years at 10% - 0.03% (9.97% net return) = $2,752,287
$500/month for 40 years at 10% - 0.35% (9.65% net return) = $2,520,111
So about a 9.2% total difference over 40 years. Not gonna ruin your life, but for me it’s enough to want to avoid the fee. But the big thing that will matter is how much you put in and how long you stay in the market. So pick your funds and buy and hold early and often!
Thank you very much! That makes a lot more sense now. What would be a recommended weight for a portfolio will only a large cap and mid cap funds?
Check out this article for some asset allocations. (I suspect your 401k offers an international index fund as well?!)
Regarding the US funds. If you want a “market weight” allocation, the large cap companies make up about 80% of the US stock market. And buying JUST those correlates extremely closely with an 80/20 allocation of large and mid/small. So… not a huge deal. Just pick one or pick both.
Yes it does! Thank you for the information