Equity investors have three basic choices. Invest directly in stocks, invest in passive funds (ETF), or invest in actively managed funds such as Sifter. In this article, I offer a few perspectives for you to think about.
Investors often believe that investing in an actively managed equity fund is expensive compared to investing directly in stocks or investing in passive funds.
Let’s take a couple of examples to evaluate that view. In these examples, the alternative of investing in an actively managed fund is represented by the Sifter Fund (Sifter Fund Global R), which invests in high-quality companies globally.
How much do you pay in trading fees when you buy and sell stocks directly?
The example below illustrates the fees payable by a private investor who builds their own globally diversified portfolio of 30 companies. This example is based on the typical number of orders per year for the Sifter Fund.
|Invest €100,000 in shares by yourself||Cost estimate, €||Cost estimate, %|
|You buy shares in 30 companies in the US, for example||€5 fee / transaction||€150||0.15%|
|You earn dividends of 2% on average You pay 30% capital gains tax on the dividends||€2,000 in dividend||€600||0.6%|
|You sell 5 shares||€5 fee||€25||0.025%|
|You buy 5 shares in their place||€5 fee||€25||0.025%|
|You pay 30% capital gains tax on profits||€5,000 in profit||€1,500||1.5%|
In the above example, the investor pays total fees of 2.3% for putting together a portfolio on their own. Obviously, the 2nd year of owning the 30 stocks become less expensive for a private investor. By comparison, the corresponding annual fees for the Sifter Fund are 1.65% for R Class and 1.25% for PI Class.
As a private investor, you often pay fairly high prices when you buy shares globally. As a professional investment entity, the Sifter Fund always pays lower trading fees on average than a private investor.
In 2019, the Sifter Fund’s trading fees represented 0.0083% of the value of the portfolio and the fund generated an annual return of 31.3%.
Taxes are the largest expense for an investor
Investors rarely calculate how much they pay in capital gains tax and dividend tax. For long-term investors, in particular, these taxes erode their returns.
When companies pay dividends, private investors often have to pay taxes on the dividends in accordance with the tax laws of their country of residence. A fund, on the other hand, can claim refunds on taxes paid.
The Sifter Fund is allowed to reclaim approximately 60% of the dividend taxes it pays, which it then reinvests to earn money for its investors.
The companies in Sifter’s portfolio pay dividends of two percent on average. Depending on their country of residence, private investors would be liable to pay about 30% of those dividends in taxes, which would reduce the returns of their portfolio. This makes a significant difference in the long run.
Capital gains tax
Capital gains tax has an even more dramatic impact on an investor’s costs and returns. When an investor makes changes to their portfolio and sells stocks for a profit, the investor is liable to pay capital gains tax (assuming the investments are not managed under a capital redemption policy or insurance wrapper). Funds do not pay capital gains tax in corresponding situations, which means higher returns for investors.
For a fund investor, taxes on capital gains are only realized when the investor withdraws their investment from the fund.
This enables a higher leverage on compound interest, which means that more of the investors’ money continues to work for them.
From the perspective of fees, a fund is a favorable way to invest in foreign markets
The ongoing annual fees of the Sifter Fund were 1.65% for R Class and 1.25% for PI Class (2019). Compared to an investor making direct transactions on their own, this makes a fund a more favorable alternative for investing in the international stock markets.
What about your personal effort, concerns, and the value of your time?
If you love analyzing companies, finding good investments and keeping a close eye on them, making your own direct investments can be a sensible option. You might even earn higher returns if your insights are more accurate and your risk appetite is higher than the Sifter Fund’s, for example.
However, most of the people I know are not willing to do this work themselves.
Analyzing companies is a full-time job and it’s also psychologically taxing work.
The Sifter Fund has an analysis team with eight members who work according to predetermined processes and guidelines. In other words, Sifter investors have outsourced the management of part of their wealth to this team and benefit from its full expertise for a reasonable price.
Active vs. passive funds
The popularity of passive funds (ETF) has grown in the past few years. Indeed, they are a smart alternative for many people who want to buy stocks globally, for example. The fees of ETFs are in the range of 0.1–0.5%, so they are undeniably cheaper than actively managed funds such as Sifter.
The investor receives the return of the index tracked by the ETF less fees of 0.1–0.5%. Although fees are the only thing that’s certain when it comes to equity investment, investors who invest in ETFs also voluntarily give up returns that are higher than those of the index.
The basic idea of an actively managed fund is to offer the opportunity to earn higher returns than a fund that simply tracks an index (ETF).
Let’s see whether this is borne out by the evidence.
Comparison Index vs. Sifter Fund Global R
The table below shows the eight-year returns of an actively managed fund (Sifter, R Class) compared to the benchmark index deducted with a fee of 0.2% (typical fee for a global ETF-fund). While performance varies from one year to the next, the Sifter Fund overperformed its counterpart by 13.4%, or by an average of 1.7% per year. If we look at the Sifter Fund’s performance since its inception (2003) the Fund’s overperformance has been c. 1% per annum after all fees.
|Year||Comparison Index*||Sifter Fund Global R||Difference|
A fund’s fees simply tell you how much you pay. Your net return tells you how much you earn on your investment.
Please keep in mind that past performance is not a guarantee of future results.
What does the Sifter Fund offer to investors?
- An investment strategy tested over a period of 18 years
- A global allocated equity fund as part of an investor’s portfolio
- 30 high-quality companies representing various countries and sectors
- A team that works according to the fund’s strategy and investment process
- Reasonable costs (compared to direct investments in stocks)
- Potential for higher returns (compared to ETFs)
- The investor does not have to bear psychological pain (if they don’t want to)
This is what our investors pay us fees for.
CEO, Sifter Capital Oy