Do High Fees Necessarily Lead to Lower Returns?

Wesley Gray |


Regardless of your financial philosophy, nobody can deny a simple empirical fact: higher fees are associated with lower returns, on average (Here is a great paper by Ken French on the costs of active investing). This finding, logically, leads investors to focus on low-cost solutions as opposed to high-cost solutions, all else equal.

But do the rules apply to large professional investors?

As the story goes, the large endowments and pensions have an edge due to their scale and access to talent. David Swensen is the classic example. The Swensen story concludes that some large institutional investors should not invest in passive low-cost solutions because they’d be missing out on the “opportunities” that scale and access can provide. Great story, and Swensen serves as a wonderful anecdote of this working in practice. Yet, the plural of anecdote is data. And what does the data say?

A new working paper from the Maryland Public Policy Institute gives us a brief glimpse at the evidence and find that fees STILL matter, on average.

However, there are some serious caveats to this study, and the results are merely suggestive, not conclusive.

  1. Five-year sample – It's hard to say much about anything with five years of data

  2. Bullish marketplace – Alternatives and other low-beta asset classes will underperform–by construction–in a bullish market

Bottom line: On average, fees have mattered over the past five years for the sample studied, but because of the inherent limits in the study, the debate of passive vs. active will rage on…

Wall Street Fees and Investment Returns for 33 State Pension Funds

The study outlines fees and investment returns for state pension funds. The researchers conclude that states with the highest fees as a percent of assets had the lowest returns. The study shows a passive index mimicking state fund asset allocations provide higher returns. Private equity funds and hedge funds in which the states invested underperformed relevant benchmark returns. The study provides some rationale for why the situation continues, even though it costs states billions each year in foregone income.


Here is the original post from Alpha Architect. For more articles from Wesley R. Gray, visit his blog at Alpha Architect

DISCLOSURE: The views and opinions expressed in this article are those of the authors, and do not represent the views of Readers should not consider statements made by the author as formal recommendations and should consult their financial advisor before making any investment decisions. To read our full disclosure, please go to:


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