Why fees matter more than they first appear

Fees compound — just like returns do

Most people understand that investment returns compound over time. What fewer people internalise is that fees compound too — but in the wrong direction. Every percentage point of annual cost reduces your compounding base year after year.

A fund charging 1.00% per year does not simply take 1% of your money once. It takes 1% of a growing pot, every year, forever — including on the gains it has already eaten into. The drag is multiplicative, not additive.

The numbers that make it concrete

Take two investors, both starting with £10,000 and adding £300 per month for 20 years, both earning 7% gross annual return before fees:

• Investor A holds a low-cost index fund at 0.15% per year. Final value: approximately £193,000.
• Investor B holds an actively managed fund at 0.75% per year. Final value: approximately £176,000.

The difference is roughly £17,000 — on a 0.60% annual fee gap. That gap widens considerably at 1.00%, 1.25%, or higher fees.

The fee is not just costing you the fee itself. It is costing you the compounded growth that fee would have generated if it had stayed in your pot.

Platform fees matter too

Fund fees are only part of the picture. Your investing platform also charges — usually as an annual percentage of your portfolio value, or as a flat fee. For smaller portfolios, percentage-based fees are often cheaper. For larger portfolios (typically above £50,000–£100,000), flat-fee platforms can save considerable sums annually.

As a rule of thumb, your total all-in cost — fund fee plus platform fee — should ideally be below 0.50% per year for a simple passive portfolio. Many investors can achieve 0.25–0.35% with low-cost platforms and index funds.

What lower cost does not mean

Choosing the lowest possible fee should not be your only consideration. A fund that charges 0.05% but only covers a narrow slice of the market may serve you less well than one charging 0.22% that covers the whole world. The question is value relative to what you are getting — not just the cheapest number available.

For the core of most beginner portfolios — a broadly diversified global equity fund or ETF — very low-cost options are readily available and there is little reason to pay more.

Active funds vs index funds on cost

The average actively managed UK equity fund charges around 0.75–1.00% per year. The average global index ETF charges around 0.10–0.22%. That difference of roughly 0.60–0.80% per year needs to be earned back by the active manager's skill before the investor breaks even versus a passive approach. Over 20-year periods, most active managers do not achieve this consistently.