Blog

Why iShares Changed Course

October 15, 2012
Share:

iShares' new pricing strategy is an ingenious solution to a seemingly intractable problem: how to compete with Vanguard without destroying its core business.

That's good for BlackRock.

But it's also good for investors, offering them some interesting new choices.

For years, iShares has had a problem. While its overall business has grown, it's been losing share—not assets, just market share—in its "core beta" products—the plain-vanilla ETFs in categories where investors and advisors put most of their money: size-bucketed equities, broad bond portfolios, multicountry international funds.

The best-known example is the iShares Emerging Markets ETF (NYSEArca: EEM). A few years ago, EEM dominated emerging markets ETFs. As of July, 31, 2007, EEM had $17.5 billion in assets under management, while it closest competitor—the Vanguard Emerging Markets ETF (NYSEArca: VWO)—had just $2.2 billion in AUM.

But iShares had a problem. While EEM and VWO tracked the exact same index, EEM charged significantly more: 0.75 percent per year at that time compared with just 0.35 percent for VWO. VWO also better tracked its index, using a full replication strategy versus iShares' optimized approach. Once investors figured this out, money flows strongly favored the Vanguard product. As of Oct. 11, 2012, VWO had $57 billion in AUM compared with "just" $37 billion for EEM.

Many called on iShares to slash fees on EEM to compete, but that was a nonstarter for obvious financial reasons. Instead, it lowered fees on EEM incrementally over the years, from 0.75 percent in 2007 to 0.67 percent today, but to slash fees to Vanguard levels would have been too costly. With its 0.67 percent expense ratio, EEM currently generates $250 million in annual fees. Reducing its expense ratio to match VWO's (now just 0.20 percent) would have cost the firm $175 million a year.

Try getting that past the board of directors.

So instead, iShares has chosen to thread the needle.

Early today, it announced the launch of a new "Core" brand of ETFs within iShares. To do so, it did two things: First, it cut fees on six ETFs, bringing those fees down to industry-leading or industry-competitive levels. Then, it announced plans to launch brand-new ETFs in four other "core" areas of the market, including areas where it already had large, established funds.

The six funds it directly cuts fees on are listed below.

New Ticker

Old Ticker

New ER

Old ER

AUM

Loss In Expense

Ratio Revenue

ITOT

ISI

0.07

0.2

$363,780,000

$472,914

IVV

0.07

0.09

$32,753,550,000

$6,550,710

IJH

0.15

0.21

$11,291,540,000

$6,774,924

IJR

0.16

0.22

$7,890,870,000

$4,734,522

AGG

0.08

0.2

$15,713,620,000

$18,856,344

ILTB

GLJ

0.12

0.2

$199,210,000

$159,368

$37,548,782

 

Generally, these are ETFs that were already low-cost, and have now just become a little cheaper. While the fee cuts do impact BlackRock's revenue, at current asset levels, the impact is modest: You're "only" talking about losing $37.5 million in annual fees.

Now consider the ETFs where iShares launched competing products:

 

ETF.COM CHANNELS

Learn why commodity ETFs are an essential part of a diversified portfolio with our Commodity ETFs channel.

Learn why bond ETFs are an essential part of a diversified portfolio with our bond ETF channel.

ETF DAILY DATA

The ETF tracking the Dow Jones industrial average was the inflows leader on Thursday, Feb. 4.

ETF issuers saw little movement in their asset totals on Thursday, Feb. 4.

ETF.COM ANALYST BLOGS

By Matt Hougan

Here's why you should attend the largest ETF conference in the world next month.

By Dave Nadig

Barclays built in a premium to this exchange-traded note, so back away.

By Sumit Roy

Why this probably isn't the start of a bear market.

By Dave Nadig

Many challenges ahead for the rapidly growing industry.

ETF INDUSTRY PERSPECTIVE

By Heidi Richardson

Opportunities in Germany and the eurozone.

By Shirish Malekar

How to protect your portfolio with liquid alts.