I’ve written a lot about ways to be frugal and save money on your everyday spending recently. But I’m also a huge fan of investing and making your hard-earned cash work as hard as possible. So what is we were to apply the frugal mindset to our investing strategy?
Well, today I have a guest post from Simon of Financial Expert to shed some light on how to apply frugality to investing and maximise your returns. Over to Simon…
One of the greatest fears of savers and investors is suffering an investment loss. Yet, as investors, we stomach losses all the time. Every time we pay a fee to our stockbroker or to our fund manager, our portfolio loses value.
A pound spent from an investing account is probably one of the most expensive pounds to lose. Why? Because if left untouched, it would have compounded over many years before it was finally spent.
When we spend money on unnecessary fees, the butterfly effect could be a much lower portfolio value when we come to buy a house, take that dream vacation or retire.
However, we can also look at this ‘multiplier effect’ in a positive light. For every £50 of existing fees we save, we could actually be giving ourselves an additional £60, 80 or maybe even £100 at the date of our savings goal. Now that’s an incentive!
I’ve created Four Frugal Rules to abide by when investing, to maximise this windfall.
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Rule 1: Trade Less for Success
Did you know that the average investor tends to undershoot the average market return by some margin? The causes are several – one is that they trade too frequently.
Unless you have mystic powers (or inside information), on average, your good and bad trades will cancel out if you try to play the market in the short term.
What won’t cancel out are the trading fees – they will add together quite nicely for your stockbroker.
If you make as few trades as possible, i.e. to sensibly buy more shares in regular intervals, you will retain as much of your money as possible to invest. This is the only place your money can work for you. It can’t do you much good in the profits of a stockbroker!
Rule 2: Premium Fees Don’t Lead to Premium Returns
Did you also know that the average actively managed fund does not beat its benchmark? This means that you have more chance of picking a dud than you have of picking a winner.
In such a situation, it makes sense to invest in index tracker funds which don’t charge the earth and try to deliver a return very close to the market average. If you don’t believe you’ll be lucky every time – it’s the obvious choice to come out ahead in the long run.
Index tracker funds also generally have much lower management charges, though this still varies by fund manager. Every 0.1% you cut from your management charges, stays in your investment, helping it grow faster.
Rule 3: Initial Fee? Flee!
Initial fees are a charge on any investment as it enters a fund. Whilst no longer a common occurrence, initial fees still exist.
A search on Morningstar, a fund analysis website, reveals that hundreds of live funds still permit initial fees of up to 5% on incoming cash.
Accepting an initial fee is like winding back the hands of time on your investment. A 5% fee means you begin at day one, with only 95% of your original investment. It could take a year or more to claw this value back.
All mainstream investment strategies are available through funds which do not charge initial fees. Therefore all that is needed to avoid this particularly nasty charge is a bit of persistence when shopping around.
Rule 4: Compare Wisely
Your stockbroker is your long term investing partner, and therefore the selection of a broker with reasonable fees will have a considerable impact upon your overall investing expenses.
It takes a little longer, but try to calculate the broadest possible cost of each broker when comparing side by side. Few comparison websites allow you to do more than simply compare individual fees side by side, like a game of top trumps.
Instead, use your own calculator or a spreadsheet to calculate the cost of a year’s worth of trades, plus any mandatory account fees or platform fees. This will be a personalised cost which is tailored for you.
Use only this number, and avoid being drawn to the broker that simply has the lowest trading fee or platform fee in isolation.
A Free Lunch
The beauty of being frugal while investing is that cost-cutting gives a risk-free return. If done properly, you needn’t take on any additional investment risk while using more efficient service providers. This makes the whole exercise a very rare free lunch!
Try it yourself and see whether you can improve your investment prospects by applying frugality to your investment setup!
Thank you Simon, for a really informative post about reducing the cost of investing.