Estimating the All-In Costs

While I was in New York over the weekend, my sister walked me past a six-story townhouse right off of Fifth Avenue that now belongs to one of my (very few) high school girlfriends.  It’s a pretty nice house with views of Central Park and apparently cost them a cool $26 million (not including any renovation and decoration costs). 


This woman married her college boyfriend who is now the Global Head of Private Equity at Blackstone, one of the largest asset management firms in the world.  Blackstone reportedly manages $311 billion and private equity is among the most lucrative segments of the asset management business.


Typically, private equity firms charge what is called a ‘two and twenty’ fee schedule, which means that they charge two percent of the assets under management and 20 percent of the profits that they generate. 


The percentage of profit fee, known more formally as ‘carried interest.’ is extra sweet because it isn’t considered ordinary income and Wall Street titans only pay long-term capital gains tax on this ‘incentive allocation.’


The New York Times ran a story the same day that we walked past that townhouse under the headline, ‘Pension Funds Can Only Guess at Private Equity’s Cost.’  You can find the link here, although a subscription may be required.


The thrust of the article is that in addition to the two and twenty fee schedule, private equity firms also charge their clients an assortment of fees not included in the asset management costs: legal fees, taxes and something called ‘monitoring and oversight’ fees. 


That last one sounds funny to me, since I would have assumed that monitoring and oversight would be included in the asset management fee.  As I read the article, I couldn’t help think of this classic, 30-second Seinfeld clip).


In any case, there is no reason for you to guess what your costs are with Acropolis, it’s very straightforward. 


First, there is the management fee that we charge quarterly and in arrears.  This fee starts at 1.25 percent and falls from there depending on the assets under management.  That’s it.  We don’t receive a dime of revenue that doesn’t come straight from our clients, which is fully disclosed on a quarterly invoice.


Even though the management fee is all we receive, it unfortunately doesn’t cover all of the costs.  When we buy a mutual fund, exchange traded fund or some other kind of ‘product,’ there is an embedded, or layered fee built into that fund. 


We don’t always buy the cheapest option, but the weighted average cost to manage an entire portfolio of products is about 0.20 percent.  Some are a little higher and others are a little lower, but that’s the norm.  Larger portfolios can benefit from lower embedded costs when we own individual stocks and bonds that don’t have an internal cost like a product.


While individual stocks or bonds don’t have an internal cost, the custodian, Schwab or TD Ameritrade, charges a commission to make a purchase or sale.  These costs tend to be around $10 per trade and that varies a little bit too depending on whether or not you get electronic statements and confirmations.  The custodians also charge to buy and sell mutual funds.


These costs are pretty minimal.  Last year, as a firm, we spent about $167,000 on these trading related costs, which works out to about 0.02 percent of discretionary assets.  (For this analysis, I am not referring to our 401k line of business – just our private and institutional clients).


Lastly, there is the market impact cost of our trading.  We didn’t know what our market impact costs were until this year when we hired an independent firm to analyze our trades and the impact is negligible, not even 0.01 percent at this point.  You can find a more detailed write up about our market impact costs here.


In short, I won’t be buying a $26 million townhouse in New York City anytime soon, which is fine by me.  As much as I like being in the Big Apple for a few days, it’s a relief to get back home to the peace and quiet of suburban St. Louis.