Commissions in investing are financial costs that are often not considered by investors during analysis of financial instruments, but can have a significant impact on capital in the long term. Commissions provide investors with access to investment tools and professional management, and understanding the different types of commissions is an important step in building a strategy that will be effective and profitable. In this article, we’ll explore which commissions exist, how they work, and why even small percentages matter if your goal is capital growth.
Commissions exist in almost every investment product, whether it’s funds, stocks or bonds, they are charged by brokers and various financial institutions in exchange for access to the product, the opportunity to make a trade or professional management. Creating an investment strategy can be comparable roughly to building a house, where every element, every brick contributes to a solid foundation for your future. And of course, at the preparation stage we create an estimate and a financial plan in order to calculate our possibilities and prevent unpleasant surprises during the construction. Therefore, it is very important to include investment commissions in your estimate in advance for the sustainability of the financial plan.
The main expense at the initial stage may be the Management Fee, which in our example of a house may be a fee for the designers and engineers of the house. The management company that charges the Management Fee is responsible for the management and strategy of the investment project. The investor transfers to them all the main tasks of the project implementation and minimizes his risks due to the experience and professionalism of the company that takes responsibility for the project. Most often this commission is higher than all others and it is important to check how it correlates with the potential profit, but here, as in construction – quality work of specialists is worth its money. In addition to the commission for strategic management of the project there is also a commission for administrative services – Administrative Fee, it covers all costs associated with the storage of investment assets, the cost of accounting, reporting and data protection.
Success Fee – in its essence it is a bonus, a bonus paid to the management company in case of achievement of better results than expected in the initial conditions of participation in the project. Usually it is paid if the project is successfully completed before the deadline, or if the final quality of the house has improved, or any other conditions have become more interesting for the investor. In a few words: it is a payment for over-planned results.
In some investment products there are also: Entry Fee, Exit Fee or Back-end Load and Trading Commisions. Based on its name, we are talking about commissions that allow the investor to make trades. For example, in the Exit Fee, the investor pays for the opportunity to buy a stock or bond, it is deducted from the investment amount and goes to cover the marketing costs and services of the platform that provides the opportunity to buy the asset. Exit fees are charged to the investor at the time the investment product is sold, and they depend on many factors: how long the investor has held the asset, whether the terms of participation are met (if not, higher exit fees may be charged), and typically exit fees decrease over time, allowing investors to reduce the cost of exiting the investment. Trading commissions are a fee for buying and selling securities, for executing transactions on the stock market and their amount may vary depending on the volume and type of transaction.
In the example of building a house, trade commissions can be compared to adjustments during construction: this can be reflected in materials, architectural solutions, design and so on. Each new transaction logically entails additional costs, which can have a significant impact on your budget if the transactions are frequent. To avoid unnecessary costs, it is better of course to plan each deal in a timely and thorough manner.
In the end, every commission should ideally be factored into the “estimate” of your financial project. As with a house, investing requires an educated choice of both the platform itself and the terms and conditions, in order for you to understand how to minimize costs. So before making this choice, study the presentations and the “price list” describing the financing, compare rates and commissions, and choose the option that will best meet your financial goals.
In addition, understanding commissions is first and foremost about managing your expenses, understanding that this process can be optimized as well. There are several proven ways in which experienced and successful investors minimize costs. First, of course, is transaction planning and passive investing: frequent transactions mean more commissions. If you choose funds that follow indices and have low commissions or projects that do not require constant active management or investing in real estate – you can save a lot on commissions. At the stage of entering an investment project, the owners of the project can include additional paid services in the package, in addition to the standard package, for example, it can be: regular analytical reports, professional consultations and the like. Determine whether you really need it and refuse the extra. Besides, it will always be great if you do your own research and analyze the benefits and fees of each option before choosing an investment platform, because this way you will be able to choose the best one on the market.
Of course, commissions cannot be eliminated from investing, but you may well be able to reduce their impact on the outcome of an investment through knowledge and working with professionals. So think of them as part of your financial house budget. Knowing and understanding commissions will allow you to better control your budget and protect your capital from unforeseen expenses.