Watch Those Pennies. The Dollars Will Take Care of Themselves.

You’ve heard the old refrain, “Watch the pennies and the dollars will take care of themselves”. It’s the underpinnings of everything I have to say about saving and investing.

I practice this philosophy every day… obsessively, according to my Gen-X daughters. It’s the underpinnings of everything I have to say about saving and investing. Face it, if you don’t save, you have nothing to invest – unless you’re a debt-leveraging dude. And a critical ingredient of saving is watching those pennies…every single one. Recently, while wandering around Lowe’s tool department, I spotted a penny on the floor. Out of sheer habit, I bent over, picked it up, and stuck it in my pocket. Was it worth the effort? No, but the ingrained habit of watching those pennies is what’s important.

A Penny's Worth

Watching your pennies is a very important factor in making quality investment decisions. In fact, it is crucial to optimizing return on investment. Focus for a moment on the simple act of deciding which of three investments to make. Mutual fund companies charge an “annual operating expense ratio” for managing money in their funds (there are no free lunches, but Vanguard’s John Bogle certainly made the Wazoo crowd more honest than it was prior to the mid-1970s).

Let’s assume that you’re investigating a possible $10,000 investment in three funds of relatively equal quality: 1) a Total Stock Market Index fund that charges an expense ratio of 0.04%; 2) a fund that charges 0.25%; and 3) a third that charges 0.90%.

How does your final choice impact the value of your retirement portfolio 40 years hence, given a theoretical market yield of 7% on each, compounded annually? Per the results in the table, with the first fund, you accumulate approximately $147,400 of value, in the second case $135,500, and in the third case $104,300.

True Cost of Tiny Fees

The significant variable in our example is the annual operating expense ratio. In short, a fraction of a single percent (i.e., the .86% difference in Case One and Case Three) could ultimately reduce the value of your retirement portfolio by as much as $43,000 after 40 years on a relatively small initial investment of $10,000. SO, WATCH THOSE PENNIES! Make this mistake enough times while waltzing toward retirement and dog food might be in your future. (By the way, the $43,000 difference is comprised of $14,200 in additional fees and $28,800 in opportunity cost associated with paying those additional fees.) That’s the money the late John Bogle spoke of when he said, “You get what you don’t pay for.”

It's All Hypothetical

The scenario I paint above is, of course, hypothetical. Future investment rates of return aren’t predictable with any certainty. Investments that yield higher rates are generally subject to higher risk and volatility. Rates of return vary widely over time, especially for long-term investments, including the potential loss of principal. However, paying a higher annual operating expense has little to do with market risk and more to do with watching your pennies. And if you don’t avoid those tiny fee differentials (i.e., watch those pennies), the down-the-road impact on your lifestyle in retirement can be significant.

A Note: The Coronavirus On Steroids

With dizzying speed, the Coronavirus has moved the market index from its recent all-time high to bear market territory in just 19 sessions! Amazing. In previous downturns, it has taken the index, on average, 136 trading days to enter bear market status from its most recent high (Source: Dow Jones Market Data). The combination of this new virus and the ridiculous Saudi/Russian kerfuffle regarding crude oil production has been particularly unsettling to investors.

This, too, shall pass, folks. Just keep the faith