George W. Karpus, BridgeTower Media Newswires
I believe the only way to judge the investment management of your assets is through analyzing your total returns: (1) adjusted for risk; and (2) net of all fees and expenses. Additionally, in this assessment, your returns should be evaluated over two or more investment cycles to separate luck from skill. In my opinion, for stocks you need at least 16 years, whereas for bonds 5 to 6 years is adequate.
It is necessary to understand the fees and expenses associated with each of your investments and identify the corresponding service being provided. However, I believe that one of the biggest mistakes an investor can make is to focus solely on expenses without considering what the benefits and returns were, net of those expenses. Simply put, expenses certainly should be a factor, but they should not be the only one.
As an example, let’s take a look at closed-end funds, where my firm buys them at wider than average discounts (as calculated on Bloomberg Analytics) and then sells them when discounts narrow or close. Such a closed-end fund may have incurred expenses of 1.5% annually and could be selling at a 15% discount to the value of the investments in the fund otherwise referred to as a fund’s “net asset value.” If you own that fund and the underlying assets experience market returns, the discount remains the same. Essentially the ownership of this fund is cheaper than owning a no load fund or an exchange traded fund. At a 15% discount, your purchasing power increases and you can mathematically own over 17% more shares than if you had paid the net asset value. In this example, mathematically the discount (present value analysis) overcomes expenses of 1.50% annually.
Another thing investors overlook is the safety of their assets. I have worked for brokerage firms and a national bank. I believe bank custody is well worth the cost to not only protect you but to also enhance the return you receive, for the following reasons.
First, banks process trades with brokers’ delivery vs. purchase or receipt vs. sale thus minimizing counter party risks. Additionally, returns can be also increased by using a bank vs. a broker. My observation can be verified by looking at how cash is swept from trades that are executed. In this regard, I have seen instances where cash swept at brokerages has lost a day or more worth of interest on each side of the purchase or sale of a money market fund. According to Stephanie Avakion of the SEC’s Enforcement Division referencing disclosures needed for money market 12b-1 fees (Source: Think Advisor, 11/26/19): “A dually registered advisor or an advisor with an affiliated broker dealer may have a financial interest, a conflict, in recommending one cash investment over another.”
On top of these concerns, custodial choices may prevent the use of some attractive securities. Many brokerage firms will not allow securities that are either privately placed or trade in the second market to be held in clients’ accounts. Some brokerage firms will not allow accounts that have outside managers the ability to purchase their proprietary funds. By excluding certain securities or security types over the years, we have found this not to be in our clients’ best interest.
All of these items are critical to assessing investment management and the costs/benefits to you for that management.
Some brokers are offering zero commissions on trades. I believe that investors should be wary of these types of arrangements, as I’ve learned that there is no such thing as a free lunch.
I’ve seen instances where orders are executed outside of the bid/ask spread and where limit orders sometimes remain unfilled. In my opinion, the use of a bank’s custodian allows an investor the ability to not be restricted to a specific broker and it allows them to seek the best execution to fill their orders. To me, the above reasons are compelling arguments for investors using a bank custodian for their assets.
The experience and industry knowledge of your manager is important to assist with keeping you safe and producing excellent risk-adjusted total returns net of all fees and expenses. These are just some of the vital things that I have learned in my 50 plus years in the investment industry.
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George W. Karpus is Chief Investment Strategist and Chairman of the Board of Karpus Investment Management, an independent, registered investment advisor that manages assets for individuals, corporations and trustees. Offices are located at 183 Sully’s Trail, Pittsford, NY 14534 (585-586-4680).
