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Will Fidelity Win the Cost War With Vanguard?

Zacks Equity Research
Oracle (ORCL) benefits from strong adoption of its cloud-based solutions. Also, alliance with Accenture is helping the company to rapidly expand its cloud-base clientele.

Fidelity launched the first-ever, no-fee index fund in August and followed suit to rake in more gains by launching two more similar funds on Sep 18. For the record, the reception to the first such fund in the series was grand, the new fund took in more than $1 billion in the first month of its launch.

The launch was pitted directly against Vanguard’s low-cost mutual funds. However, Vanguard retaliated by lowering the minimum initial investment on about 38 of its index mutual funds. This price war that the two fund houses have engaged in have given rise to speculation about whether Fidelity will ever be able to catch up to Vanguard in the realm of cheap index funds. Let’s find out.

How Is Fidelity Positioned Against Vanguard?

Fidelity’s race to zero-level fees seems to have paid off. The fund house generated about $1.8 billion in revenues since the introduction of Fidelity ZERO Large Cap Index Fund FNILX and Fidelity ZERO Extended Market Index Fund FZIPX in August. Further, in a bid to double up on gains it launched two more such funds in September, namely Fidelity ZERO Total Market Index Fund FZROX and Fidelity ZERO International Index Fund FZILX.

Per the firm, the motive behind introducing such funds is to attract more retail investors. Moreover, these funds have zero expense ratios and no minimum investments. Also, the sales figure for the month of October stated that Fidelity outclassed Vanguard by more than 40%. Morningstar estimated that the best-selling funds from Fidelity have been those for which fess were lowered extensively.

What has been largely viewed as a response to Fidelity, Vanguard reduced the minimum initial investments on 38 index funds in its cheaper Admiral Shares range to just $3,000 from $10,000. The fund house also closed the most-expensive share class in the fund range. The savings which the firm hopes to generate will then be rolled over to its Admiral share class by April 2019.

Experts are of the view that such conversion of Investor shares to Admiral shares would result in a massive fee cut for investors holding funds from Vanguard. The fund house estimates that lowering investment minimums for its Admiral share classes would help investors save as much as $71 million.

In many cases, the conversion of Investor shares to Admiral shares could represent a significant fee cut for Vanguard investors. To put it in to perspective, the Vanguard 500 Index Investor VFINX representing the Investor share class has a net expense ratio of 0.14% compared to the Admiral share class fund, Vanguard 500 Index Admiral VFIAX, carrying an expense ratio of 0.04%.

To Conclude

On the face of it, Fidelity appears to be winning the low-fee war. However, Vanguard has a larger exposure to retail investors and index funds from the fund house still charge ultra-low fees compared to the industry standards. Also, taking the asset-weighted basis into consideration, investing in Vanguards index funds has historically saved investors millions of dollars in annual fees.

Moreover, Vanguards’ efforts to indirectly lower mutual fund fees across the industry deserves a mention. For the record, in 1996, equity mutual-fund expense ratios averaged 1.04% compared to 0.59% in 2017.

Finally, zero expense ratios arise mainly out of huge economies of scale for companies like Fidelity. In comparison, ultra-low-cost funds are the real deal if saving is the primary goal. This is why it won’t be an easy task to beat Vanguard in the race to becoming high-return, low-fee champion.


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