ETF Fee War: The High Cost of Low Price

ETF Trends

The exchange traded fund low-fee war has been ongoing and providers are banking on hopeful investors seeking to maximize returns. However, there is much more to ETF investing than lower fees, and critics argue that the ongoing fee cuts can be costly over time.

“Fidelity Investments is trimming fees at its largest index mutual funds and making some of its lowest-cost options accessible to a larger number of fund shareholders, including those with as little as $2,500 to invest. Fidelity’s moves affect mutual funds holding about $100 billion in assets, out of about $1.6 billion that the Boston-based company manages overall,” Associated Press reports. [Fidelity Fires Back in Ongoing ETF Fee War]

Fidelity Investments is the first mutual fund company to slash expense ratios and lower the amount of minimum capital it takes to invest in one.  The Boston firm, with $1.7 trillion in assets under management, said it would lower the expense ratio by 0.01 to 0.08 percentage point on certain share classes of its Spartan series of index funds beginning Jan. 1, reports Kristen Grind for The WSJ. [ETF Fee War Spills Over to Index Funds]

The catch is that most investors don’t realize that if they are changing out ETF or mutual fund providers and chasing low fees, they are making trades. And these trades are costly and can add up quick. In fact, brokerage costs are one of the biggest expenses when it comes to actively trading, while expense ratios only make up one part of the equation.

Financial advisers and fund analysts say the cost of constantly changing index-fund and ETF providers might not be worth the difference in what you pay. [The Darker Side of the ETF Fee War]

For instance, Fidelity’s fee cuts mean its funds now match or only slightly undercut the fees at Vanguard Group funds, according to a comparison by IndexUniverse, an investment research firm. Fidelity cut the expense ratio on the institutional share class of its Spartan Total Market Index Fund to 0.05% from 0.06%. That now matches Vanguard’s comparable Total Stock Market Index Fund, reports Grind.

Another result of frequent trades or buying and selling are the capital gains. Capital gains taxes are a huge factor and have come into focus, especially as we near the fiscal cliff deadline. Federal tax rates on a short-term investment, under one year, is 35%. Long-term rates are at 15% for ordinary income,  but this number could be raised after the first of the new year.

Some of the new fee cuts were intended for 401(k) plans, not just for keeping up with the competition. The moves are aimed at “providing workplace retirement plan sponsors and individual investors access to a wide-array of high-quality index funds at some of the most competitive pricing in the industry,” said JS Wynant, an executive vice president at Fidelity.

Tisha Guerrero contributed to this article.

The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.

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