Watch your step: the investment returns gap is widening
Guy Myles, 18 May 2016
It's obvious that the purpose of investing money is to maximise returns. The question is, why are we doing so much to damage ourselves? Over the course of 15 years the average investor could be losing out on up to 35% of gains - and it's all a result of the investor returns gap.
The investor returns gap is the difference between the amount of money a long-term investor should achieve based on the returns generated by the investments they own, and the actual returns an investor receives back.
Over the long-term it's not the changeable nature of the market that's eroding potential returns, it's investor's own behaviour that could be doing the most damage.
Mind the gap
In a recent report, Cambridge PHD Charikleia Kaffe investigated the real reasons behind the investment returns gap. The report makes sobering reading for anyone with skin in the game.
Kaffe tackles the question head on, comparing the average investment returns from a sample of over 5,000 investment funds to the returns investors in those funds actually received.
The report highlights how the average investor is losing out on up to 2.1% every year. Over 15 years this could accumulate to the average investor missing out on 35% growth. To put it in context, an investment of £20,000 made in 2001 would lose out on approximately an additional £7,000 over 15 years.
Consider the value of your investments, along with the investment timeframe, and the results could be much more.
Same problem, different day
The phenomenon of the investor returns gap isn't a new one. Since humans began investing, we have faced the possibility of losing out as markets rise and fall. The investment gap itself is made up of two factors: large management costs that can eat into returns, and our own investment decisions.
In the world of finance, reputations - and glossy brochures - don't come for free. There's also no guarantee that success will repeat itself. Fund management fees take an average of 0.75% of your potential returns each year. So you can see why keeping costs low is a crucial part of your investment strategy. But there is worse to come.
Question of timing
More damaging than ignoring the small print is in trying to time the market. The problem of when to enter and exit the market has existed since markets began - but constant connectivity and the huge amount of choice now available to DIY investors can cause some to make expensive mistakes, and continue to make them.
In the report Kaffe uses information from 5,763 funds as the basis for her calculations. From the comfort of your armchair you can invest money in markets across the world in seconds.
The problem is, we often buy-high and sell-low - eroding any gains and putting capital at risk, not to mention potentially paying for the privilege of conducting a transaction.
Greater choice and greater control may be liberating, but when it comes to investments it may not be the best thing. In fact, the increasing choice available may cause the investor return gap to widen. After considering the market as a whole, Kaffe highlights how investors could be losing up to 1.35% every year as a result of poor decision-making when compared to average market returns.
Fill the gap
It's clear that the investor return gap is a problem, but the solution is anything but complicated. The recent UK-focused 'Mind the Gap' report sits alongside research from across the world detailing that, over a medium-long term horizon, reducing your costs and maintaining investment discipline are often the most profitable solution for the DIY investor.
The investor gap may be real, but it's not insurmountable.
For more information on this, read the 'Mind the Gap: Why are UK investors missing out on returns?' report here. To speak to one our independent financial advisers or our investment management team call 0333 241 9900.