If you’ve been watching any commercial television lately, you are well aware that the financial services industry is very busy running expensive ads imploring us to worry about our retirement futures. Open a new account today, they say.
They are not wrong that we should be doing something: America is facing a retirement crisis. One in three Americans has no retirement savings at all. One in two reports that they can’t save enough. On top of that, we are living longer, and health care costs, as we all know, are increasing.
But, as I found when investigating the retirement planning and mutual funds industries, those advertisements are imploring us to start saving for one simple reason. Retirement is big business — and very profitable. It doesn’t take a genius to figure out that the more we save into the industry’s financial products, the more money they make in fees and commissions trading our hard-earned cash. And as long as they don’t run away with our money or invest it in a Ponzi scheme, they have little in the way of accountability to us when something goes wrong. And even then it can be hard to fight back.
Big banks, brokerages, insurance companies and other financial service providers operate under something called a suitability standard — which says they don’t have to give you the best advice, just advice that isn’t too egregiously terrible.
Let’s say you sit down with an adviser at your brokerage or bank and ask for some advice on how you should allocate your retirement savings, or which funds you might want to choose for your IRA.
You’ll get lots of advice, but chances are it won’t be worth much. Eighty five percent of all financial advisers and financial planners are really just brokers or salesman. Their incentive is to sell you a product that makes them a higher commission, not necessarily a product that maximizes your chances of saving more. Only 15 percent of advisers are “fiduciaries” — advisers who by law must operate with your best interests in mind.
Last year, the Obama administration proposed a rule to mandate that all financial advisers, financial planners and other assorted financial wizards would have to adopt a fiduciary standard when it came to employee retirement accounts such as your 401(k) or IRA account. The financial services industry, which today manages something upwards of $10 trillion of our retirement nest eggs, thought this was a bad idea and pushed back hard. Scores of their protest letters poured into the U.S. Labor Department, the branch of our government responsible for regulating employee retirement accounts.
“Send for 6 informative videos with information showing how to spot and avoid hidden fees that erode your retirement savings.”
Congress, too, was hit with a furious lobbying campaign. This would be way too expensive, the industry said; if we have to provide such a standard of service, we will either have to pack up and find another business line, or have to pass the increased costs on to our customers. The Obama administration pulled their proposal last fall.
How would a new fiduciary rule change things? Chances are you would be sold less expensive products, not only in your IRA accounts but inside your company 401(k) as well. It’s all about fees. While reporting on retirement plans for FRONTLINE, nothing has been more surprising to me than the corrosive effect of fees on our retirement savings.
It’s this simple: Fund fees can erode as much as half or more of your prospective gains.
For the sake of dramatizing the point, John Bogle, founder of Vanguard, the world’s largest mutual fund company and pioneer of low-cost index funds, gave me a startling example while we were filming. Assume you are invested in a mutual fund, he says, with a gross return of 7 percent, but that the mutual fund charges you an annual fee of 2 percent.
Over a 50-year investing lifetime, that little 2 percent fee will erode 63 percent of what you would have had. As Bogle puts it, “the tyranny of compounding costs” is overwhelming.
In short, fees matter. So what can you do? You aren’t going to find a fund that invests your money for free, but experts say you can come close by buying index funds. Their fees can be a tenth of what the average mutual funds charges. And over time, in bull and bear markets, on average, index funds perform better than their more expensive actively managed fund cousins. This is no secret to anyone who is paying attention.
So why aren’t our trusted financial advisers and those ads telling us to buy index funds? Why do some 401(k) plans not even offer them on their menus?
It’s because even though an index fund might be a better option for you and me, a broker operating under a suitability standard has no incentive to sell it to us. He or she will make higher commissions from options that have higher fees.
Sadly, a recent AARP study reported that 70 percent of mutual fund savers were not even aware that they were paying any fees at all.
Is there hope for change? The Labor Department says they plan to reintroduce a new fiduciary rule this summer that will force the financial services industry to think of us first when it comes to retirement. We’ll see how that goes.
*Martin Smith, the correspondent on The Retirement Gamble is an Emmy- and Peabody-award-winning documentary filmmaker for FRONTLINE.