Protect your return on investment

“Do you really want to invest in a system where you put up 100 percent of the capital, you, the mutual-fund shareholder, you take 100 percent of the risk, and you get 30 percent of the return?” John Bogle was being interviewed for PBS documentary The Retirement Gamble and was referring to excessive fees in actively managed 401k retirement accounts, but this applies to all investments.

Bogle, the founder and retired CEO of the Vanguard Group, is a proponent of index mutual funds, no-load funds, and low-fee mutual funds. He was referring to the gains that will be lost if you are charged a 2 percent fee per year over a 50-year investment horizon. I was skeptical that these figures could be correct, so I decided to do the math.

I have a bachelor’s degree in math from Chico State, and am recently retired from teaching math for 25 years. I started with a $100,000 investment at 7 percent annual gain reinvested over 50 years. That yields $2,945,703. Starting with the same $100,000 at 5 percent (less the 2 percent fee) over 50 years, you would have $1,146,740. Less the initial $100,000 at 5 percent, you have a gain of $1,046,740, and at 7 percent a gain of $2,845,703.

As you can see, the 2 percent fee cost you $1,798,963 of your potential gains. Your $1,046,740 is about 37 percent of the $2,845,703 you would have earned without the fee. The amount you lost due to the 2 percent fee ($1,798,963) is 63 percent of your potential earnings.

How could it be that a 2 percent fee could mean that you would get only a little more than a third of your possible earnings and the mutual fund gets almost two-thirds? The reason is that you don’t just lose the 2 percent in your total account each year. You also lose the possible income that you could earn from that lost amount for up to the next 50 years. So, over your retirement investment life, it amounts to an enormous loss.

I realize that 50 years is perhaps an unreasonable amount of time. I ran the numbers for 30 years, and you would get 50 percent (and lose 50 percent) of your potential gains. Many people will not be comfortable doing their own investing and will need help. Those people should still be very concerned about investment fees, as you can see how destructive they are to your returns.

If you are just starting your retirement investing, don’t get caught putting up 100 percent of the capital and 100 percent of the risk and getting between a third and half of the income from your investments.