Active ETFs Push Industry Fees Higher

The growth of more expensive active ETFs is lifting average expense ratios, a Morningstar report shows. 

The average asset-weighted fee across all mutual funds and ETFs fell 3.4% last year to 36 basis points, which compares to a 7.8% decline in 2022, according to the research group's 2023 U.S. Fund Fee Study. 

“Fund fees are still declining, but at a slower rate,” said Zach Evans, manager research analyst at Morningstar and lead author of the 2023 U.S. Fund Fee Study.

ETFs have exerted fee pressure on asset managers for the past two decades with the asset-weighted average expense ratio falling by more than half to 87 basis points in 2004. Now, the trend has tapered as issuers introduce more innovative active and alternative strategy ETFs charging higher fees. 

On an equal-weighted basis, which nullifies the effect of where most of the money is invested, the average fund expense ratio ticked up last year to 95 from 94 basis points.

Low-cost still rules across the asset management industry and fund managers understand this reality. But as Evans explained, gaining assets in the modern ETF space requires the kind of innovation that rarely comes cheap.

“The cheapest indexed spaces already are bargain basement and upstart providers can’t compete with that,” he said. “For smaller and even some larger providers that want new assets, they have to offer something different, and the cost might be higher before they get to economies of scale.”

According to the report, the lowest-cost 20% of passive funds gathered 90% of all inflows over the past two years.

The cheapest of the cheapest funds was the biggest winner last year as $428 billion flowed into the lowest-cost 10% of funds, while the next-cheapest decile totaled $25 billion worth of outflows.

ARKB's 4 Fee Updates

Perhaps the best example of how issuers focus on fees is the string of four expense ratio updates filed for the $2.4 billion Ark 21Shares Bitcoin ETF (ARKB), which originally filed in May 2023 for an expense ratio of 95 basis points.

In October, the issuers updated the filing to set the fee at 70 basis points, but a month later, raised the fee to 80 basis points.

On Jan. 8, 21Shares and Ark Invest updated the filing again, cutting the fee to 25 basis points. Two days later, the same day the SEC approved ARKB along with nine other spot bitcoin ETFs, the issuers waived the fee for the first six months or until the asset reached $1 billion, after which the expense ratio would be 21 basis points.

“Spot bitcoin in an ETF was pretty much a commodity, and they were adjusting because they were watching their competitors,” Evans said.

Source: etf.com