Hi Guys,
It’s Saturday morning in Southern California, and I just got off the tennis courts with a doubles partner. He reflected on how costly his investment advisor was, and how that added significantly to an already heavy expense ratio from most of his portfolio’s mutual fund fees.
That need not be, so I invited him to my home to expose him to a recent WealthTrack TV show that aired a few months ago. The show featured Charles Ellis and Mark Cortazzo, both long term protagonists for investment cost control. Ellis has been singing this same song since the 1970s.
My tennis buddy watched the one-half hour presentation, and I reinforced it with a 7-page document that Ellis wrote in 1975 titled “The Loser’s Game”. He took a copy home.
My friend tends towards inertia so I’m not sure how effective my hour with him will prove to be. He has the potential to cut his costs by a factor of about three if he exercises most of the options that I suggested. And costs are especially important to portfolio net rewards when the market returns are likely to be muted.
I recognize that MFO participants are fully cognizant of cost impact on portfolio performance, but it might help some of you if you take time to reinforce that understanding.
Here is a Link to the WeathTrack episode that we watched together:
http://www.gurufocus.com/news/186900/consuelo-mack-wealthtrack-charles-ellis-and-mark-cortazzoIt might be worth your review. Sorry if it has been referenced on this fine site earlier.
Here is a Link to the ancient paper that Charles Ellis produced three-plus decades ago:
http://www.collinsward.com/Articles/CWCM_The_Loser's_Game.pdfEnjoy. Charles Ellis illustrates his primary position with terrific and entertaining examples.
Cost containment is always a virtuous goal and should be actively pursued. Ellis has a unique way to think and demonstrate how costly those “small” fund charges and management fees really are.
Best Regards.
Comments
Great interview.
To be fair, some people are willing to pay advisor fees for their services much like a automobile operator is willing to pay a toll to drive on a highway. Your video interview points out that most people are unaware of the true impact these fees have on their portfolio. Both systems have a motivation to increase traffic flowing past their turnstiles. Personally, I believe Advisors derive disproportional large profits managing someone else's investments in exchange for disproportianlly little risk. I see this arrangement as an example of "dispersed costs and concentrated benefits" as well as "reward without risk".
Investment fees (like the tolls we pay to travel a highway or bridge) are the dispersed costs...we all pay a small amount money to invest or drive. The Advisor, like the toll booth operator, collects these "small" fees. Your linked video points out that this "small" fee is based on the value of the investment (car) not the improved experience (profit) the participate derives from using the Advisor's services (highway). There is a huge difference in the fee strucuture that most investors are clueless to.
Aside from a portfolio's performance, Investment Advisor concentrates these "small fees" into very significant profits (benefits to them). Additionally, these advisor fees carry no investment risk. This arrangement separates the Advisor from the market risk providing a predictable flow of profit in up and down markets. Advisors perfer larger investments under management so that these fees can be cushioned due to market volitility. The risks of the market are solely planted in the investor's driver seat, not the management company's leather back sofa.
Advisors want to promote a steady conservative investor (driver) who will return each trip and pass by their toll booth. Here they will look at the number of axles (size of your portfolio), charge you accordingly and send you back out on the highway.
Now that I think of it, I wonder if that skunk I "encountered" last night had an annuity...
Have a nice trip!
Hi Bee,
I too was fascinated by Charles Ellis’s assessment of mutual fund management fees. I didn’t think it was possible, but Ellis out-Bogled cost containment master John Bogle himself with respect to cost analysis.
John Bogle forever cautioned that cost matters should be judged against prospective annual returns. A 1 % management fee is less onerous when a 10 % annual return is expected and delivered than when a 5 % yearly return is realized.
Charles Ellis proposes a more challenging demand since you already own your portfolio, and are entrusting it to your fund manager's protection against the vicissitudes of general market uncertainty. He suggests that the fee schedule should be coupled to returns measured against a relevant benchmark. Little chance of that ever happening.
Ellis has long been a staunch ally and advocate of passive Index investing. I was shocked when he wrote a book, “Capital” , in 2004 that chronicled the history of The Capitol Group Companies, financial and investment advisors for the American Funds family. I found it unlikely that Ellis would elect to do this task, and even more unlikely that Capital would enthusiastically participate in this company biography, given Ellis’s preference bias and passion for passive fund management. Strange bedfellows indeed.
Yet Ellis produced a book that extolled the virtues of the long term investment outlook, the team management concept, the shunning of investment superstars, and publicity that characterizes Capital and American Funds long, and mostly distinguished, record. Given a long enough time horizon, bad outcomes damage all investors: private, professional, and institutional alike. Recently, American Funds suffered that regression to the mean.
I love analogies. They help in the understanding of a complex landscape and provide stories that facilitate memory. Your toll booth analogy serves both those desirable purposes. It is excellent. I will certainly remember it, and might use it. Congratulations.
Thanks for your contribution, especially for your perceptive analogy.
Best Wishes.
Regards-
Hi Old Joe,
I’m sure you did well with American Funds; I hired them in the early 1990s and they did deliver positive Alpha for me for good parts of a decade. I’ve adopted a more passive oriented approach more recently.
The Capital organization emphasized deep research in all their products and developed their talent internally. Given Charles Ellis’s penchant for passive investing, I was amazed at how fairly he detailed the Capital system in his book. He honestly believed that Capital managed to identify, develop, and maintain an exceptional cohort of researchers and money managers to successfully execute the challenging active management task.
He concluded that the firm achieved low turnover rates because of a carefully crafted financial incentive program, and an industry admired corporate culture whereby innovative thinking was encouraged and rewarded.
Ellis writing kind words about an active fund management operation sort of unbalanced me. My cognitive equilibrium was perturbed, like seeing one of M. C. Escher’s staircase drawings. Here is a great Link that presents some of Escher’s more famous physics defying drawings:
http://www.google.com/images?q=escher+waterfall&hl=en&gbv=2&gs_l=heirloom-hp.3..0l10.1636.9414.0.15474.12.6.0.6.6.0.228.916.0j5j1.6.0...0.0...1c.1.rpA423tePJc&oq=escher+waterfall
I particularly like the Escher waterfall picture at:
http://www.google.com/imgres?imgurl=http://homepage.ntlworld.com/andrew.lipson/escher/lego_waterfall_1600.jpg&imgrefurl=http://www.andrewlipson.com/escher/waterfall.html&usg=__62R1IQmU2_39xJal9W2IRSjn1E0=&h=1600&w=1394&sz=539&hl=en&start=3&zoom=1&tbnid=-MMhbr3uuv3fvM:&tbnh=150&tbnw=131&ei=b-mhUJLDI4Hs2QXMuIC4DQ&prev=/images?q=escher+waterfall&hl=en&gbv=2&tbm=isch&itbs=1
Enjoy and thanks for your comments. Escher’s work wows me.
Best Wishes.