The Great Index Unit Trust Hoax

Whenever I check into a hotel, I get really fascinated by just how crazy expensive some of the items in the minibar are.

One time when I was on vacation, I felt a little hungry so I lumbered over to the minibar and pulled out a pack of cashew nuts – just the regular kind you’d find at any convenience store. Just to be safe, I checked the prices before I tore the pack open, and involuntarily yelled: “NINE DOLLARS FOR A PACK OF TWELVE NUTS?! ARE YOU OUT OF YOUR FRICKIN’ MIND???”

It’s absolutely crazy how people are perfectly willing to pay several times the price for the EXACT SAME PRODUCT – a product that they could have gotten much cheaper elsewhere. We see this everywhere: a Nike sneaker vs a non-branded one, Tropicana orange juice vs a house brand, and beer that costs $12 in a restaurant and $2.50 in the supermarket.

A pack of nuts from the minibar might do a little damage to your wallet, but it’s nothing compared to the damage a unit trust (also known as a mutual fund for my American friends) could do to your long-term wealth.

Costs Matter

I’m not even going to discuss actively managed unit trusts with their high management costs. Nobody takes those seriously anymore – There’s more than enough research that shows that as a whole, actively managed unit trusts are a terrible choice compared to index funds.  Check out here and here.

Today, I’ll just uncover a pricing anomaly I like to call The Great Index Unit Trust Hoax, which involves 2 unit trusts being sold to Singaporean investors. Both charge exorbitant amounts to essentially help you invest in portfolios that you could have easily put together yourself… at a fraction of the cost.

To Infinity… and Beyond!

Exhibit A is the Infinity US 500 Stock Index Fund, which is supposed to help you track the return of the S&P 500. To accomplish this, it hits you with a whopping 0.98% expense ratio.  Now 0.98% may not sound like too much of a big deal, but try compounding that over 30 years and you’re talking about a difference of tens of thousands of dollars of extra cash that’s coming out of your pocket.

But hold on – there’s another, cheaper way for you to track the return of the S&P 500 on your own. You could buy an ETF from Vanguard, which gives you the EXACT SAME RETURN, while charging a mere 0.05% expense ratio. This makes the Infinity unit trust almost 20 TIMES MORE EXPENSIVE than the Vanguard ETF. Yeah, I know.

Home Sweet Home… For 4x The Price

Okay, I hear you say, so maybe that’s a problem unique to the USA.

Oh wait, it’s not.

Presenting Exhibit B, the patriotically-named unit trust MyHome Fund run by Singaporean asset management company Nikko AM. It invests in 1) an ETF tracking the Straits Times Index and 2) the ABF Singapore Bond Index Fund ETF. They’ll charge you a ridiculous expense ratio of 1.2% for all their hard work.

But wait! Did you know that you could totally log onto your online brokerage and invest in 2 ETFs which track the EXACT SAME THING for a fraction of the cost? Namely:

1. SPDR Straits Times Index ETF (SGX Ticker: ES3) – Expense ratio: 0.30%

2. ABF Singapore Bond Index Fund ETF (SGX Ticker: A35) – Management fee + trustee fee: 0.20% (I couldn’t find an exact figure for the total expense ratio on their website – those sneaky bastards – but it shouldn’t  be too far away from the sum of these 2 fees).

Total weighted expense ratio: 0.28%

Ta-daahh! You’ve constructed the exact same product, at a quarter of the cost. And that’s not taking into account sales charges, redemption charges, front-end charges, admin charges, and hire-an-attractive-banker-to-convince-you-to-part-with-your-money charges.

Do Yourself a Favor

My point here is to always, always, read the fine print. The finance industry loves to play down details like these because it means higher commissions for them – commissions that come right out of your pocket.

If you plan on investing passively, do yourself a favor and skip out on the unit trusts. You’re way better off buying the equivalent ETFs instead. Of course, there are a few disadvantages in buying ETFs (eg brokerage commissions, currency exposure, inability to invest in small amounts), but they can be easily circumvented (eg investing regularly using no-minimum commission brokers,  or in the case of the STI ETF, setting aside an amount every month until you can afford one lot). None of the disadvantages of ETFs justifies the tens of thousands of dollars you’re giving up in expenses if you invest in unit trusts.

It would be totally awesome if a reputable fund provider like Vanguard would set up an index fund in Singapore (are you reading this, John Bogle?), which would eliminate all the disadvantages in the para above, and yet charge a reasonable expense ratio that doesn’t require us to give up our first-born child.

In the meantime, stay smart and read the fine print. Save your money for those overpriced cashew nuts from the minibar. At least they’re tasty.

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The Absolute Moron’s Guide to the Euro Crisis

Came across this yesterday, and thought that it was way too awesome not to share! Presenting:

The Absolute Moron’s Guide to the Euro Crisis Part I and Part II   (Hat tip Barry Ritholtz)

Totally awesome for those of you who’ve been trying to wrap your heads around this Euro crisis thing, so you have something smart to say at that awkward moment when it’s just you and your boss in the elevator. (I didn’t do so well – today, I got stuck in the elevator with my boss and I stammered at how awesome it was that our company has an annual fire drill. Smooth, Lionel, smooth.)

My favorite parts (SPOILER ALERT):

“Also, there are still a lot of question marks surrounding the bailout — where the $125 billion will come from, what the terms of the bailout will mean for existing Spanish bondholders, and whether the troika will require Spain’s government to enforce any spending cuts.

THE TROIKA. Sorry, it just sounds like a badass weapon from Game of Thrones.”

And also:

“Anyway, after months of speculation and hand-wringing, Spain agreed to take a bailout — which some people are calling “Spailout” because it’s fun to combine words — that will help it recapitalize its banks. 

Recapitalize? Is that like when you’re texting on an iPhone and you want to type “mark” but it keeps changing it to “Mark” because it thinks you’re talking about your friend Mark and then you scream at Siri, “I’m not talking about Mark, Siri!!!”

Some Good Investment Research… and Terrible Advice

I didn’t want to blog about investing till much later, but the Straits Times had an interesting article yesterday titled Stocks v Property. It deals with the issue of “Where the hell should I put my money?!” when it comes to investments. Everyone talks about investments, like: “yeaaahhhh I should really save up for a house… but it’s really expensive…” or “yeaaaahhh I’ve been meaning to invest for awhile now, but I don’t think I have enough time/money/interest…whine whine whine”. But very few people actually get off their ass and actually do some real research on what they should be investing in, so they either 1) don’t invest altogether, or 2) make some stupid investment decisions.

So an article like this gets some of that research done for you, which is awesome. I loved the first part of the article, which used numbers and statistics to back a case and destroy some common assumptions that we all have. The article should’ve just stopped right there, but part 2 of it gave some absolutely terrible investment advice, and I just had to say something about it, in a minute.

Some good investment research

From the ST article: “Retail investors, especially those in Singapore, tend to think of stocks as a short- to medium-term investment. When seeking a long-term investment, most Singaporean investors think of property first. 

But a recent comparison done by the Singapore Exchange (SGX) has shown that, in fact, local stocks have outperformed private residential property over the long run. In the 10 years from 2001 to 2010, the benchmark Straits Times Index (STI) gave an annualised return on investment of 4.9 per cent. Meanwhile, if you had bought property in 2001 and sold it in 2010, you would have made an annualised return on investment of 3.9 per cent over the period.”

Sure, the study excluded returns from dividends and rents, but add those into the mix and stocks have still historically outperformed real estate over the long run. And while 10 years is hardly considered to be the “long run”, other studies have shown that stocks have outperformed real estate over longer time periods (see this New York Times article).

Some terrible investment advice (esp if you’re young):

So the Straits Times article would have been awesome if it had presented the statistics, drawn a conclusion, and stopped there. But page 2 of the article had some terrible investment advice:

Mr Vasu Menon, OCBC Bank’s head of content and research, noted that such wild swings in the stock market are even more prevalent today. As a result, he said, holding on to stocks for the long term is no longer a relevant strategy in this day and age.” (emphasis added).

“So even if stocks had outperformed property between 2001 and 2010, he said, there is no guarantee that they will do the same over the next decade. His advice: Set a target for your stock investments and have the discipline to stick to it. Say, for example, that you hope to make a 30 per cent return on a certain stock within three years. If the stock somehow reaches that 30 per cent target within six months, just sell, Mr Menon said.”

Hello?! Stocks are “no longer a relevant strategy in this day and age” just because the market has been volatile and uncertain? Mr Menon obviously needs a lesson in economic history: volatility and uncertainty are NOTHING NEW to the stock market. They’ve always been there – the Great Depression from 1929, the 1940s when stocks pretty much didn’t go anywhere, the “Black Monday” of 1987, the dot-com bubble of 2000, the collapse of Lehman in 2008…  and yet the US market has averaged a whopping 9.96% annually from 1920 to 2010. Volatility and uncertainty aren’t “unusual”, they’ve been characteristic of the stock market for the past 200 years. And anyone hoping to benefit from the long-run return of the stock market would have to learn to deal with these characteristics.

Next – Mr Menon is advocating that you cut your gains short by selling as soon as your stocks make a certain amount of profit. Sure, that might prevent your portfolio from turning into a loss, but it also prevents you from ever getting rich if the stock market does take off, leaving you sitting by the sidelines and whining like a baby. If you’re a young investor with a steady income and many years of investing ahead, then Mr Menon’s advice is absolutely terrible for you. He’s right that there is no guarantee stock prices will rise over the next decade – there are no guarantees when it comes to investments (unless you consider Ponzi schemes to be “investments”) – but over a long enough time period, there’s a pretty damn high likelihood that the stock market will come out on top.

So what the hell should you do?

Let’s be clear – your job isn’t to make sure that your portfolio makes money over the next 6 months, 1 year, or 3 years. Your job right now is to ACCUMULATE as many assets as you can. Since we know that stocks are ultimately likely to give you the best return over the long run, your job is to make sure that you have as many of those assets as possible, so that your returns will be multiplied across all those assets after a long, healthy period of investing! We’re talking 10, 20, 30 years here. Who cares if volatility wrecks havoc to your portfolio over the short run – it doesn’t make a difference because you’re not thinking of selling within the next couple of years anyway. Ignore the day-to-day fluctuations, ignore the uncertainty and fear that pervade the news, and ignore the stupid, complicated investment advice out there. Investing can be simple, straightforward, and best of all, automated (I’ll be blogging about that in time to come). Stick to your guns and accumulate as many stocks as possible, and you’ll be rewarded in the end.

To me, the answer is pretty clear: multiple studies, research and 200 years of stock market history have shown that the stock market is more likely to give you a better return over the long-term. Do I think that property is a bad investment? Of course not. The best portfolio would consist of both stocks AND real estate, among other asset classes. There’s way too much to say on this topic, so I’ll be blogging more about it as we go along. But I thought I’d start us off with a little taste of it here. 🙂