How do you make money in the stock market? Well, a good start is to avoid excessive and often hidden brokerage and insurance fees, costs and expenses. If you think that you are working with an independent and objective fiduciary adviser or planner and not a broker, you are likely mistaken as brokers often use every name to describe their work except the name “broker.” Below are common and often hidden or at least hard to find costs of investing.

Commissions

Commissions (or loads) are a real and significant drag on a portfolio’s performance. Commissions are common with actively managed mutual funds and are often classified as Class A, B or C. These fund designations have nothing to do with the quality of the fund; instead it merely signifies how the commission will be paid to the broker. For example, Class A funds charge an upfront fee (typically as large as 3.5 percent to 5.75 percent). If an investor invests $10,000 in a Class A mutual fund with a broker, the actual amount invested under a typical scenario would be a mere $9,425. What happened to 5.75 percent of your money?  It went into the broker’s pocket as a commission.

Another ill-conceived and costly investment is the “Manager of Managers” or wrap accounts, which create layers upon layers of costs. Most such accounts are not merely expensive but have often failed to perform.

Take notice that commissions are paid regardless of how the actual investment performs.

Avoid most annuities

Annuities are insurance products, not pure investments. As insurance, these products are often extremely expensive with substantial surrender charges (typically 6 to 14 percent or more) lasting several years to cover the outsized commissions paid to brokers. A typical commission scenario, you buy a $100 thousand annuity and your broker makes $10 thousand up front. This is hardly independent and objective advice. Don’t be fooled, despite what your broker suggests, ultimately, you pay this commission and not the insurance company.

Insurance companies often entice investors with enhancements or signing bonuses for buying an annuity. That’s money for nothing, right? Wrong. Beware as you probably bought yourself a very expensive annuity that you cannot get out of for several years without a substantial penalty and that enhancement or signing bonus comes out of your annual expenses. It is no gift to you. In addition to such annual charges there are annual separate account fees with variable and other annuities.

Annuities should be highly scrutinized before purchase by a professional not otherwise engaged in selling annuities. We also recommend that you review the State of Michigan Office of Financial and Insurance Services unambiguous warning letter to the public on annuities entitled: “Seniors Beware: Variable Annuities May Not Make Sense For You!”

Annuities also have numerous tax challenges associated with them. This is true even for the so-called tax-friendly annuities. We recommend that you consult with your CPA investment adviser before purchasing an annuity.

Annual fees

Operating or internal expenses are the annual fees built into a mutual fund. With annuities these expenses are called separate account fees. These fees are paid annually in addition to the one-time commission paid and possible surrender penalty. Operating expenses come directly out of the mutual funds and annuities and are largely hidden from investors. These fees may be difficult to determine but they are real and often very high.

Cost of cash

The cost of cash is the opportunity cost associated with being uninvested while your broker either attempts to time the market or use his supposed superior stock selection skills. Does either approach work? Not according to the research. Indeed, the research reveals the opposite. Alas, the brokerage industry seems more interested in marketing than educating and training its brokers in the complex mathematics of constructing efficient investment portfolios and in understanding the tax consequences of investing.  The cost of cash can be 1 percent or more per year.

Avoid most actively managed mutual funds

An actively managed fund attempts to time the market and/or identify the “right” stocks.  Despite the fact that this is almost always an unsuccessful endeavor over the long term, the investment public is inundated with these funds due to commissions. Actively managed funds may be identified as Class A, B or C, and so on. In addition to the fees associated with these funds, as described above, other challenges abound, such as high turnover.

Actively managed funds have turnover that is often 125 percent or more per year. Such high turnover creates many serious problems for investors including but not limited to excessive fees, bid/ask spread or market impact losses, excess avoidable taxes, and style drift. Investors should avoid most actively managed funds. Despite the abundant evidence that simple index funds outperform the vast majority of actively managed funds in the long term, actively managed funds continue to be sold due to commissions. This is hardly independent and objective advice.

A simple solution

A simple solution for most high-net worth investors or those aspiring to be such: a fee-only adviser (not merely fee-based)—no loads or commissions, serving all clients as a fiduciary, investing in institutional investments as opposed to retail, possessing substantial education, training and experience and not merely industry designations.

We are by no means alone in suggesting such a solution. Indeed, in his well-regarded and top-selling book, The Millionaire Mind, Dr. Thomas J. Stanley, professor and prolific author on the affluent, makes clear that wealthy investors almost always look to investment advisers who are lawyers and/or CPAs and seldom engage financial planners and brokers.

		Stephen L. Hicks, JD, MS, CPA and Roger L. Millbrook, JD, CPA/PFS, are Fee-Only Fiduciary Investment Advisers and principals of Siena Capital Management, LLC.  Part of a larger Siena team, both professionals are lawyers and accountants and hold other degrees or designations in the area of financial services. They can be reached at This e-mail address is being protected from spambots. You need JavaScript enabled to view it .