Investment apps have made investing more accessible and user-friendly, but they often come with hidden pitfalls, especially for those looking to maximize returns. Many platforms automate investments into standard ETFs and mutual funds, which, while convenient, will limit your upside, ultimately costing you quite a bit in terms of your net worth.
First off, the consumer has many platforms to choose from for investing their own capital. Wealthfront, Titan, Acorns, Betterment, and many more. What all these platforms fail to do is to provide outperformance to you at an affordable cost. Any platform can simply invest capital in standard, diversified options and charge you a fee such that they are implicitly guaranteed to underperform the market.
When it comes to investment opportunities, high-yield investing and a low-cost investment app are very important, critical components.
Disadvantages of ETFs
When comparing ETFs, most individual investors compare ETFs with other ETF options. However, if you compare ETFs to the broader universe of equity investments, then the ETF costs are actually higher, not lower! Again, this materially impacts high-yield investing.
Index ETFs have low fees, but they keep their lending revenues maximized (extra income). In other words, this can be viewed simply as a mechanism to increase income for the ETF providers (the Blackrocks, Fidelities, and Vanguards of the world). To provide more detail, large ETF custodians will lend out 80-90% of the shares under custody.
This process, known as securities lending, allows these institutions to lend ETF shares to other financial players, including hedge funds and other institutional investors. While this may seem beneficial at first glance, as it provides extra revenue to the fund, there are hidden risks and drawbacks that investors should be aware of. Hence, a low-cost investment app offering high returns is key.
Detrimental Effects of Securities Lending and Fees
Securities lending involves lending out shares to borrowers who often use them to short-sell or hedge against price movements. In return, borrowers provide collateral, usually in the form of cash or government securities, which slightly exceeds the value of the shares lent out. This collateral acts as a safeguard, allowing the ETF to recall its shares if needed. Custodians earn a fee from lending out these securities, and this revenue can be used to offset fund expenses or enhance returns, creating the impression that securities lending directly benefits ETF holders.
First, returns are not fully passed to investors. While the fees earned from securities lending are shared with the fund, they are not always passed on entirely to investors. Custodians often keep a percentage of the lending revenues, limiting the overall value that investors receive. For investors, this means that while the ETF is lending out the assets the investors effectively own, such investors do not see the value of the income generated. In effect, high-yield investing becomes lower yield for investors.
Second, when shares are lent out, the voting rights associated with the shares are transferred to the borrower. If a borrower defaults, and the collateral does not cover the value of the shares, then the ETF may suffer losses. This counterparty risk is not something investors typically consider but can lead to large losses, especially in times of market turmoil.
Third, tracking error and liquidity concerns also play a role. Lending out shares can potentially create tracking issues. If the ETF needs to recall shares for liquidity or redemption purposes, this can affect the fund’s ability to mirror its index, particularly during periods of high market volatility. Being aware of such phenomena is important, especially when considering that the standard hype surrounding ETFs is often overplayed.
In sum, return reduction from fees, voting right concerns, and tracking are three critical factors that play a role in seeking investing with low fees.
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Why Limited Pass-Through Value Impacts Investor Returns
For investors, particularly those relying on overly diversified apps for passive growth, the withheld income from securities lending and fees represents a missed opportunity. The cumulative impact of forgoing a portion of securities lending income and cumulative management fees may not be immediately apparent but can compound over time. In long-term investments, even small differences in annual returns can significantly affect an investor’s end portfolio value. By not fully benefiting from the securities lending income and reduction in management fees, investors are indirectly funding operational efficiencies for the ETF providers rather than maximizing their own returns.
Diversified investment apps are structured to appeal to the broadest possible user base, often focusing on simple convenience over control. This model, while ideal for accessibility, does not provide individual investors with the ability to maximize returns. Moreover, ETFs themselves are not obligated to pass along all generated income. Although some funds may strive to provide investor benefits, others operate with a stronger emphasis on internal profit-sharing, limiting the true pass-through of lending income and fees.
For an initial investment of $100,000 compounded at 20% annually over 20 years, it grows to $3,833,760. If compounded at 21% instead, the initial investment reaches $4,525,926. This difference of $692,166 demonstrates how even a 1% increase in annual returns can significantly boost long-term wealth, showing the power of compounding over time.
In conclusion, while standard investment apps offer convenience, accessibility, they can quietly erode your potential returns over time. Practices like limited pass-through of securities lending income and hidden management fees create a “value gap” where investors miss out on the full potential of their investments. Even small percentages matter: over decades, a difference of just 1% in annual returns can mean millions of dollars in lost wealth.
For those committed to building lasting value, it's essential to choose transparent platforms like Openvest about fees, prioritize full income pass-through, and offer equitable access to generated revenues. As the financial landscape continues to evolve, investors should look beyond superficial perks, opting for platforms that align closely with their financial goals to maximize potential returns. OpenVest.co, with its friendly interface, stands out by making investing approachable while ensuring your money works as hard as you do for higher yields.