Over the years, various surveys have shown that investors aren’t aware of what expenses their portfolios are incurring. Compounding matters, I’ve observed situations throughout my career where investors are focused on comparatively small costs without giving much consideration to the potential benefits that can be realized from incurring them. It’s important to be aware of both.

I’m bringing this subject up because in our March Stock Superstars Report, which will be published tomorrow, we discuss the costs of tender offers, offers to purchase some or all of shareholders’ stock in a company. If asked, I doubt many investors could articulate them. Yet, Helen of Troy (HELE) shareholders could be looking at a double-whammy of selling at a price below the current market value and incurring higher commissions. (Fidelity charges $38 for participating in a tender offer versus $7.95 for a traditional, open market trade). Granted, tender offers are not frequently made, but they do provide a good example of why it is important to pay attention to costs.

A far more commonly incurred cost is fund fees. Within the large-cap category of our 2014 mutual fund guide, one of the cheapest funds is Vanguard Total Stock Index (VTSMX). This fund has an annual expense ratio of 0.17%. In contrast, Marsico Flexible Capital (MFCFX) ranks among the most expensive funds with an annual expense ratio of 1.44%. This 1.27% difference equates to $127 extra per year for every $10,000 invested with MFCFX instead of VTSMX. That amount adds up. On a $100,000 investment, an investor will pay Marsico $1,270 per year more than he would pay Vanguard.

Unfortunately, it’s easy to overlook these costs because they are deducted from a fund’s assets. Marisco won’t send its shareholders an annual bill for $1,440 (1.44% x $100,000) nor will Vanguard send an annual bill for $170 (0.17% x $100,000). If they did, shareholders would certainly scoff. Yet, the beauty of the investment industry is its ability to quietly charge fees based on assets under management (AUM). Investors never see the bill, while the fund companies profit from a recurring, and typically unchallenged, revenue stream.

Brokerage commissions are incurred whenever you place an order to buy or sell a stock. This is why brokers do everything they can to get you to trade more often. The mobile phone apps offered by TD Ameritrade (AMTD) and other companies aren’t for your benefit, they are a profit center for the brokers. By making it easier for clients to trade, brokers realize a higher amount of commissions. If investors had to hand over cash or a check every time they placed a trade, there would be fewer transactions. It has nothing to do with logistics and everything to do with human behavior. The further separated you are from the immediate pain of an expense, the more willing you are to incur it. And, over time, even seemingly small transaction costs can add up to a lot of money.

Some investment expenses are worth incurring, however. Paying a higher fee for a fund makes sense if the manager is truly able to deliver enough extra return or diversification benefits to more than compensate for the extra cost. Brokerage commissions should never be the tail that wags the sell decision’s dog. If a stock truly violates your sell rules, get rid of it. (Don’t have your sell rules so strict that you are transacting every day, however.) An investment adviser who keeps you on track to achieve your long-term goals can be well worth the cost. And just one good idea from a model portfolio, an investment newsletter or a stock screener can more than offset several years of their cost.

The key to investment expenses is to treat them like you should calories: Don’t unnecessarily skimp on them, but make them worthwhile. Prudently choosing where to spend your dollars can have a significantly positive impact on your portfolio’s returns. Wasting your money on unnecessarily high costs will hurt your returns. Spend on investment expenses that help your portfolio, but in a very cognizant and thoughtful manner.

More on AAII.com

• Measured Reality: What It Takes to Reach a Net Return Goal – This article discusses the three elements that reduce your net (realized) investment returns.
• My Investment Letter: Words of Advice for My Grandchildren – Any discussion about investment expenses would not be complete without mentioning Charley Ellis, the preeminent voice on the dangers of high investment expenses.
• What Investment Expenses Are Justifiable? – Share your opinion on the AAII.com Discussion Boards.
• Don’t forget to take the Sentiment Survey.

The Week Ahead

Just eight members of the S&P 500 are scheduled to report earnings next week. This small group includes AutoZone (AZO) on Tuesday, Brown-Forman (BF.B) on Wednesday and Costco Wholesale (COST) and Kroger (KR) on Thursday.

The February ISM manufacturing index, January personal spending and income, January construction spending and the February PMI manufacturing index will lead off the economic calendar with a Monday release date. Wednesday will feature the February ADP Employment Report, the February ISM non-manufacturing index and the periodic Federal Reserve Beige Book. January factory orders and revised fourth-quarter productivity will be released on Thursday. Friday will feature February jobs data—including the change in nonfarm payrolls and the unemployment rate—and January international trade data.

Four Federal Reserve officials will make public appearances. Richmond president Jeffrey Lacker will speak on Tuesday, Dallas president Richard Fisher and San Francisco bank President John Williams will speak on Wednesday, and New York president William Dudley will speak on Friday.

Jeff Hirsch of the Stock Trader’s Almanac says March is the fourth-best-performing month during midterm election years (Only October, November and December perform better during midterm election years.) MarketWatch cited Ryan Detrick of Schaeffer’s Investment Research as describing March and April as the two best-performing months over the past 20 years. There is no guarantee that these trends will continue, but it is nice to have the odds in our favor.

AAII Sentiment Survey

Neutral sentiment rose to a six-week high in the latest AAII Sentiment Survey. Optimism stayed above its historical average, while pessimism declined to a nine-week low.

Bullish sentiment, expectations that stock prices will rise over the next six months, fell 2.5 percentage points to 39.7%. This is the third consecutive week with optimism above its historical average of 39.0%.

Neutral sentiment, expectations that stock prices will stay essentially unchanged, rose 4.2 percentage points to 39.2%. This is the highest reading since January 16, 2014, and just the third time since 2005 that neutral sentiment is above 39.0%. It is also the eighth consecutive week with a neutral sentiment reading above its historical average of 30.5%.

Bearish sentiment, expectations that stock prices will fall over the next six months, declined 1.6 percentage points to 21.1%. This is the lowest level of pessimism recorded by our survey since December 26, 2013. It is also the 21st time in the past 25 weeks that bearish sentiment is below its historical average of 30.5%.

Since jumping to 36.4% near the start of this month, bearish sentiment has fallen by a cumulative 15.3 percentage points. Pessimism is now close to the bottom of its typical range of readings. Conversely, neutral sentiment is right at the border of typical and unusually high readings.

Some individual investors are likely watching the S&P 500’s current attempt to break out into new record high territory. An upward move past current levels would encourage those investors who are otherwise optimistic about sustained earnings and economic growth and the Federal Reserve's tapering of bond purchases. A failure by the market to move higher could renew fears about stock prices having established a short-term top and that a correction could be forthcoming. Some AAII members are also fretting about elevated stock valuations, the pace of revenue growth and Washington politics.