Investing Concepts, General

Opportunity Cost vs Realised cost

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The opportunity cost and the realised cost are very important factors to consider when choosing the appropriate fund to invest in. First let's examine the opportunity and realised cost, as well as explain what these two costs are. Then let's take a look at how these costs affect which fund is right for KiwiSaver investors and the significance of how choosing the right investment can benefit your return.

What is Realised Cost

Realised cost is the Actual cost of a KiwiSaver Fund. This includes the hidden fees, membership fees, any fee you may have to pay to be in the fund of your choice. Realised cost is important because the fees and hidden costs of a KiwiSaver can have a large impact on the return on your balance. 

What is Opportunity Cost

Opportunity cost is the amount of potential gain an investor misses out on when they commit to one investment choice over another.

OPPORTUNITY COST = RETURN OF THE BEST FUND NOT CHOSEN                                                         RETURN OF YOUR CHOSEN FUND

For a KiwiSaver investor, opportunity costs represent the potential benefits they miss out on when choosing a fund with a provider over another KiwiSaver provider's funds. 

Furthermore, we cannot know which fund will receive the best returns on the investment in advance. Opportunity cost can be very small or considerably large in investing as there is never the correct fund to invest in and no one knows the future. Because opportunity costs are, by definition, unseen, they can be easily overlooked. 

How Does This Affect KiwiSaver Investors?

The opportunity costs of being in a conservative fund could be the cost of not receiving higher returns from a balanced fund. But in turn the opportunity cost in a balanced fund is the higher volatility of the fund compared to the low volatility of a conservative fund.

For example, if an investor who, at the age of 18 dutifully invested $1000 of their income per year into a low volatility conservative KiwiSaver fund over the next 50 years and achieved an average annual return of 2.5% they would retire with a KiwiSaver balance worth almost $150,000. When one considers the investor’s opportunity cost, if for example, they had instead invested in a balanced fund and received an average return of 5%, then their balance would have been doubled to more than $300,000. This $150,000 that could have been gained as a return from the balanced fund is the opportunity cost of making the investment. 

Realised cost and opportunity cost are both part of the various factors considered by National Capital when advice is given. To see how else we are helping Kiwis along with their journey to financial security, have a look at National Capital or take our HealthCheck to find a KiwiSaver fund to suit you, that you know has the support from us and our research.

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