Transaction costs are a frequent discussion point among retail investors and I will in this post explain some of the hidden transactions costs that most retail investors forget and why, as a dividend investor, it is important to keep costs at a minimum.
The ordinary brokerage fee is easy to calculate and is often a minimum fee or a percentage of the transaction.
One of the costs that are easy to forget is the cost arising from the “Bid/Ask – spread”. For the most liquid stocks, the bid/ask-spread can be extremely small, but for the more illiquid stocks the cost will have a greater impact on your return. Let’s say you consider purchasing Equinor ASA, which is a quite liquid stock. The shares last recorded price is NOK 150. The current ASK-price in the market is NOK 151, while the current BID-price is NOK 149. To purchase the stock you have to pay NOK 151 and you will incur a transaction cost immediately of NOK 1, or ~0.6 %. If you decide to sell your shares in the future you’ll once more pay this bid/ask-cost. The power of dividend investing stems from reinvesting your dividends. The effect of interest compounding goes down due to this liquidity cost and is also one of the cons of dividend investing.
Have you ever made an currency exchange at an airport? If you have, you know the bank screws you over big time. Brokers also knows how to milk their customers when it comes to currency exchanges. When purchasing stocks in foreign currencies they charge you a currency mark-up. This foreign exchange transaction cost will often be as large or larger than the ordinary brokerage fee! For stocks that doesn’t distribute dividends to their shareholders this will mostly be a one-time transaction fee, but for dividend investors this fee will be “charged” every time you receive a dividend. The mark-up ranges from 0.075% to 0.25% per transaction. Every time you receive a dividend, your broker can record an income in their books.
So, even though the most quoted transaction costs is the ordinary brokerage fee, this is not the cost that you should pay to much attention to. It is the liquidity cost (bid/ask spread) and the currency mark-up by your broker that robs you in the long run!