1. Finding the right broker or ‘fund supermarket’
The main thing you need to start using the Saltydog system is a broker or ‘fund supermarket’ where you can easily buy and sell funds.
Instead of buying a fund directly from the fund provider (e.g. Fidelity, Jupiter), a ‘fund supermarket’ gives you access to thousands of funds from a huge range of providers. This is much more convenient, and usually much cheaper - just like going to the supermarket for food, where thousands of brands are available under one roof.
Fund supermarkets are usually accessed online, via a website account, although some of them offer telephone services too.
With the Saltydog system we buy and sell funds frequently, often weekly. So it’s vital that you have an investing account with the following features:
- Offers a wide selection of funds from all the major fund providers and investment houses.
- Only charges low costs for switching between funds. (N.B. See the next section on costs).
- Provides an easy and efficient method (preferably online) for buying and selling funds, and keeping track of your transactions.
- Has a good customer service helpline.
There are many fund supermarkets available. Some of the most popular are:
|Charles Stanley Direct||www.charles-stanley-direct.co.uk|
An internet search will give you many more.
Just so you know, here at Saltydog Investor we use Hargreaves Lansdown to manage our two demonstration portfolios. Whilst Hargreaves are not the cheapest service, they do provide a huge range of funds and they are very helpful to deal with.
2. Understanding costs, and keeping them down
When I talk about trend investing using funds, one of the first questions I’m usually asked is: “But aren’t the trading costs enormous?”
The short answer to that is No.
OK, the costs are more expensive than doing little or nothing with your portfolio (as ‘passive’ investors do). But the charges probably aren’t what you imagine at all.
Having said that, we need to have a full understanding of what’s going on.
For us to apply trend investing using funds, there are two elements of costs that we need to be aware of:
- The cost of buying and selling funds i.e. the charges made by the fund supermarket, and
- The fund costs themselves i.e. the charges made by the fund provider to run the fund and pay the fund manager etc.
Since we are buying and selling funds frequently – often weekly – it’s important that our trading costs are kept to a minimum. In other words, the fund supermarket charges are very significant for us. I’ll come on to those in a minute.
Regarding the second element – fund costs - let me just make one thing clear from the outset. It’s a hot topic amongst investors, so it’s worth addressing now.
Why we’re not so bothered about fund costs
Although many investors get all het up about fund managers’ salaries and how outrageous the annual percentage fund fees are, here at Saltydog we’re not actually too bothered. It’s important to see them in context.
OK, we’re not big fans of the financial services industry or their humongous salaries and bonuses. But as trend investors our primary focus is on fund performance, less so on fund costs.
The financial services industry largely promotes ‘buy and hold’ investing, because it helps them maximise their profits. Billions of pounds are held in ‘dog funds’ that consistently underperform their benchmarks, and most customers don’t do anything about it. Meanwhile fund managers sit back and rake in the annual charges and commissions. Nice work if you can get it!
This ‘buy and hold’ investment philosophy immediately robs the private investor of the two most important tools needed to enhance their investment performance. These are 1. choosing the best performing sectors, and then 2. picking the best performing funds.
If you’re a ‘buy and hold’ investor, you’ve essentially given up the ability to increase your returns by optimising the underlying performance of your investments. Thus the only thing left to work on is the costs.
Here at Saltydog, we think that’s silly. We put our priorities the other way round: what’s most important to us is fund performance. Costs aren’t so critical.
Of course, we don’t want to give away money where we don’t have to.
But with the Saltydog system our priority is identifying which funds are performing the best right now. Sometimes it’s a cheap fund. Sometimes it’s a more expensive one. Our priority is performance. Fund costs are a secondary consideration to this.
Having said that, what is very important to us – since we are buying and selling funds frequently – are the trading costs involved i.e. the charges made by the fund supermarket. So let’s now look at those.
Fund supermarkets: the charges
The fund supermarkets all have different charging structures. But when it comes to Unit Trusts and OEICs there tend to be two main ways of charging:
1. Administration fee + dealing fees.
Here you are charged a flat administration fee (usually one-off, or low), and are then charged a dealing fee every time you buy or sell a fund.
As I write, an example of the ‘flat fee’ structure includes iweb. They charge a one-off £200 fee for the first account, with no other annual or monthly charges. Then every time you buy or sell a fund, it will cost you £5.
Another example is Interactive Investor. If you hold an ISA account with them, that costs £20 per quarter (including two free trades), and a SIPP account is £80
+VAT per year. Then every time you buy or sell a fund it will cost you £10 – dropping to £5 for frequent traders.
2. Management fee + free dealing.
With this arrangement you are charged a ‘management fee’ – i.e. a percentage of the value of the funds you own – and then all fund trades (buys and sells) are completely free.
Hargreaves Lansdown takes this approach. With Hargreaves you pay 0.45% per year. (Dropping to 0.25% above £250,000). There are no dealing costs at all.
Cheaper options include Charles Stanley Direct (0.25%) and Cavendish Online (0.25%).
Fund supermarkets using this type of charging structure often reduce the percentage as your portfolio increases in size, or put a cap on it.
So how do you decide which of these two charging structures is right for you?
I’m afraid I can’t give you a definitive answer, but here’s a formula that should help. The two key components are (a) how often you intend to trade (buy or sell), and (b) how much money you have in your portfolio.
Let’s assume you’re going to follow the same level of activity as us here at Saltydog. Roughly speaking, with the Saltydog portfolios we average about 100 fund transactions (buys and sells) per year.
Let’s consider the first charging structure (no. 1 above) where there are dealing fees for every transaction. Let’s say that the average dealing fee is £10. With 100 transactions per year at £10 each, that would cost you £1,000.
Now let’s consider the second charging structure (no. 2 above), where there’s a management fee. Let’s say you have a portfolio of £100,000. With a management fee of 0.45%, that will cost you £450 per year – with no dealing costs. And, obviously enough, with a fee of 0.25% it will cost you £250.
So in this instance, with a portfolio of £100,000 and dealing 100 times a year, you could save yourself at least £500 by going for the management fee option.
Of course I’m just giving this as an example of how to think about it. You need to consider how many times you’ll trade per year, the size of your portfolio, and the different charges of the different fund supermarkets – and then make a calculation that is right for you.
Fund supermarket costs: a quick way of comparing them
The charges applied by fund supermarkets change fairly regularly, so you do need to find up-to-date information. Go on-line and search for ‘fund supermarkets’. You’ll find various comparison sites which should give you all the details you need.
Plus, please don’t forget that costs aren’t the only factor you need to consider when choosing a fund supermarket.
As I said at the start of this section, it’s vital that they also have a wide selection of funds available, that they’re easy to use, and that they provide good customer service.
It’s not much good having a cheap supermarket if you’re continually frustrated by not having access to the funds that you want to buy, or you get annoyed by how difficult the website is to use, or by unhelpful responses to your queries!
Just one last point about costs.
You might be thinking , “£500 or £1,000 a year? That sounds a lot!”
If you’ve not been a very active investor, then spending a few hundred or a thousand pounds a year on dealing costs might seem like a big leap. But please don’t forget what you’re setting out to achieve. The Saltydog demonstration portfolio has substantially beaten the market since we launched it in 2010. And that out-performance takes into account all the costs.
If you want to be more active about your investing, then yes, there are some costs to pay. But we’re confident – and our portfolio has proven it – that the out-performance will substantially outweigh the additional costs.
As I said earlier, the high fees charged by funds get many investors worked up. But in fact the situation has changed greatly over the past few years, and you can easily avoid the worst of them.
This is due to two things: the advent of fund supermarkets, and a review of the financial services industry by the Financial Conduct Authority (FCA) which came into effect in 2013-14.
If you buy a fund directly from a fund manager or investment house (i.e. you buy a Jupiter fund direct from Jupiter), you could pay an “initial charge” of 5%. Obviously that’s a hefty amount, and you’d need to make a substantial gain on your investment just to break-even.
Historically this initial charge was split between the financial adviser and the fund manager. However, since the Retail Distribution Review (RDR) funds are no longer able to pay commission to advisers.
But the most important thing for us is this: if you use a fund supermarket, there are no initial charges for the vast majority of funds.
Bid offer spreads
Another form of up-front cost is the bid offer spread which you have to pay on some funds, normally Unit Trusts. In this case the initial fee is calculated by working out the difference between the offer price (the higher, buying price of the units) and the bid price (the lower, selling price).
The important thing to remember is that there are hundreds of funds that do not have spreads, and these can be bought without paying an initial charge if you go through the right fund supermarket.
In our weekly Saltydog data, as far as possible (we don’t always manage to spot them all) we highlight the funds where there’s a bid-offer spread in italics, so that you are aware of the extra costs involved. But it really isn’t very many. And most of the time it’s easy to find an alternative fund with an equally good performance, without a bid-offer spread.
Regular on-going charges are perhaps the most mysterious and difficult to unravel. In the past these were built into the price of the fund and used to pay the fund management costs, the platform provider, and trail commission to whoever originally sold you the fund. Now these costs have to be charged separately.
The fund managers charge an Annual Management Charge (AMC). These vary from fund to fund, but when choosing funds, I try not to spend a disproportionate amount of time worrying about how much money the fund manager makes. I’d rather look at how well they perform once the costs have been deducted. I’m not overly concerned whether a fund’s got an AMC of 0.75% or 1.00%. It’s the end result that matters to me.
The question you should be asking is “will this fund make me money?”
As I said earlier, what’s the point in choosing a fund with a low management charge, if it continually underperforms? You’re far better off paying a slightly higher charge for a significantly higher return.