Launch of the Vanguard super fund in Australia, but very high percentage costs
Vanguard’s entrance into the Australian superannuation business has generated a great deal of excitement.
With the introduction of a fund that charges just 0.58% in fees for a default MySuper option, I largely share that enthusiasm. This will maintain the pressure on an industry that has historically charged inordinately high costs to inactive customers simply because it could.
Vanguard’s primary product is a lifestyle fund which utilizes your age to lower investing risks as you approach retirement. This is a relatively simplistic solution to a large variety of individual circumstances, but an improvement over the typical and even more erroneous “one size fits all” approach.
This focus on superannuation investment fees does, however, highlight the need for a radical overhaul of the system of charging investment and administration fees within superannuation – perhaps even more radical than the Hayne Royal Commission’s recommendations, which resulted in the exit of all major banks from the superannuation space.
Why increase costs proportionally to balances?
Using Vanguard’s fees as an example, why should someone with a $20,000 retirement account and someone with a $2,000,000 retirement account pay $116 and $11,600 each year, respectively, to have their money invested in the exact same product?
There is just no explanation for such a large disparity in the cost of providing the same service, unless you subscribe to a Robin Hood theory in which the wealthy subsidise the poor through their high investing fees.
This Robin Hood scenario is now accounted for by many funds, which cap administration and management costs for accounts under $6,000 at 3% of the total invested.
The percentage-based investing fee scam deteriorates with time.
For each year the aforementioned investors remain in their super fund, the majority of their contributions remain invested and just the most recent year’s contributions are reinvested.
This is especially true for passive investment vehicles such as Vanguard.
If you decide to shift your investment strategy, for example, from high growth to balanced, you will likely incur additional expenses, either in the form of a switching fee or a buy/sell spread fee, which tends to conceal what is actually occuring.
Even without a change in investment approach, there may be slight adjustments to the percentages of various asset classes, but in general, there is no new brokerage or fee collected other than maintaining an overall picture of asset class percentages and investing new funds.
This is the key to understanding what super funds achieve by charging a percentage-based investment fee: a level of fee income that grows smoothly along with members’ account balances, regardless of the services actually provided on the ground or the performance of the investment manager.
Average fees are excessive
Canstar has determined that, on average, default super fund members pay between 0.89 and 1.17 percent of their account balance in annual fees.
This demonstrates why Vanguard’s entry is so crucial to lowering fees for everyone, as percentage fees are one of the most significant determinants in determining how much of your own money you will have when you retire.
Using Canstar’s calculations once more, two individuals who begin accumulating super at age 25 and retire at age 67 with identical returns will have a difference of $132,138 in their super if the only difference is an annual charge of 0.75 percent versus 1.5 percent.
Focus on costs and results
This demonstrates why investors must have a laser-like focus on the magnitude of their super fund’s costs and the returns it generates.
In retirement, the difference between a fund with good performance and reasonable costs and one with high fees and poor performance might be life-altering.
It is comparable to the difference between yearly trips abroad and twice-weekly dining out against a much more austere retirement, therefore it is worthwhile to be actively involved and monitor performance and costs.
In addition, I hold out hope that the percentage-based approach that is still nearly universal for investing fees for super products will one day be replaced by a price based on the real services rendered.
This has been a pipe dream for many years, but if the focus stays on reducing fees, perhaps they might be reduced to more reasonable levels, so preventing the needless loss of retirement income.
In the end, when a comfortable retirement is at stake, both lower fees and outstanding performance are worth fighting for.