Avoiding Investment Traps

My recent post entitled “When Free Costs Too Much” outlines the everyday encounters with items that seem to be free, but actually have hidden costs. For example, coupons for free or near free unhealthy foods, a free sample for a monthly subscription, or a free or low cost item that has problematic packaging and other environmental consequences.  Interestingly, this principle applies to investment decisions. I find too many people lured by free offers and low cost initial discounts. Generally, I try to avoid the following:

–Investment products (or advisors) where you sign up for a free trial period, then high fees kick in– I often forget to cancel monthly subscriptions to things that I don’t need. [I have also had massive fights with one internet service provider, one telecommunications provider, and my former gym for continuing to charge month after month long after they received, and acknowledged, the cancellation]. These products often end up being highly costly.

--Free gifts as enticements — JD had a great post on a frisbee that cost him $1500 dollars as it was the “free” gift attached to a bank account that had huge monthly fees. Obviously the real cost of such things include ongoing fees and opportunity costs, like a lower interest rate.  There are a number of institutions and credit unions that offer actual free accounts these days as the market has gotten more competitive.

–Investment products that offer a free consultation – I understand the desire of many people to learn more about investing and feel insecure in their own knowledge, but I have heard so many complaints of people who have signed up for a free consultation and found out that it was really to sell the companies products.  My broad advice is to learn about investments on your own first, and if you feel you really need help, ask around for someone to recommend an advisor that they have personally interacted with and pay for a one off consultation.

–Free or low cost investments that run counter to your strategy or philosophy — I have seen people opt to put their 401K in the “free” money market account rather than a reasonable, diversified mutual fund of stocks and bonds because the management fees on the latter were not free.  Generally speaking index funds have relatively low management fees, but otherwise asset allocation decisions should not be made based on fees.

shared at this week’s Carnival of Personal Finance