Illustration of How Costs Can Greatly Hamper Your Investment Returns (And Why Index Funds Do So Well)

As most of you know, I'm a big fan of index funds. One reason I like them so much is because their low costs help them perform better than most investments. Here's how Vanguard, the company that's probably the biggest proponent of index funds, summarizes the relationship between index funds, costs, and investment returns:

"One reason many index funds have consistently done better than most managed funds is because they typically have lower expenses," Dr. Malkiel said in a recent Vanguard.com interview. "It is that gap between expenses of the two types of funds that gives you the advantage from indexing."

In the same post that contains this comment, there is a simple illustration that shows how higher investing costs can be a drag on total returns. For many of you, it will be too simple (you'll know this already), but I thought it was a good graphic portrayal of what I discuss here quite frequently, so I wanted to highlight it.

To see the illustration, click this link, then scroll to the bottom (unless you want to read the article too) to where it says "higher expenses can be a drag." The illustration is right below an opening paragraph. Enjoy.

Comments

[JGInvest26]

I agree with you completely on the advantages of index funds. The way I look at it is this: Tons of studies conducted on pension portfolio returns say that asset allocation accounts for over 90% of investment returns. So cut out the bull, focus on the correct proportion of the asset classes needed to reach your goals and find a way to own those asset classes as purely and efficiently as you can. How do you do that? Index funds.