The World’s Cheapest ETF Model Portfolio Gets Cheaper

July 13, 2010

A few years ago, I developed a model portfolio composed of the cheapest ETFs on the market.

It was based on an aggressive but diversified allocation, with a 75 percent equity allocation (both domestic and international), a 15 percent bond allocation and small allocations to REITs and commodities.

When it launched in June 2007, the blended average expense ratio of my ultra-low-cost portfolio was 0.16 percent. I thought that was pretty good.

But there has been huge price competition in the ETF industry over the past few years, and that blended expense ratio has fallen and fallen and fallen some more: first to 0.148 percent in July 2007, and then to 0.1365 percent in December 2007.

And then it got stuck. The ETF industry grew rapidly from 2007 to 2009, but prices didn’t move much. Until recently. The recent entrance of Schwab into the ETF market has helped spark a new wave of price cutting, and my low-cost portfolio has gotten even cheaper.

Today, the blended average expense ratio on my portfolio has fallen to just 0.125 percent.

It’s amazing: For 12.5 basis points, you can own a complete portfolio of stocks, bonds and commodities.

For comparison, the average expense ratio of an actively managed equity mutual fund last year was 1.50 percent.

The portfolio, weights and expense ratios of the funds held in the portfolio are listed below. I’ve used cross-out text to identify fund holdings that have changed.

In each asset class I’ve chosen the ETF or ETN with the lowest expense ratio that offers complete exposure to the target market. These are not necessarily the best ETFs in each area, although they are all good funds.

IndexUniverse Low-Cost ETF Portfolio
Asset Class Weight Fund Ticker ER
U.S. Stocks 40% Vanguard Total Market
Schwab U.S. Broad Equity
Markets Stocks
30% Vanguard Europe Pacific
Schwab International Equity
Emerging Markets 5% Vanguard Emerging Markets
Schwab Emerging Markets Equity
Fixed Income 15% Vanguard Total Bond Market BND 0.11%
REITs 5% Vanguard REIT VNQ 0.12%
Commodities 5% iPath Dow Jones AIG Commodity ETN
Blended Expense Ratio 0.1365%

Of note, the portfolio is not designed to be the “right” portfolio for any particular investor. Rather, it’s designed to show just how efficiently investors can use ETFs to gain exposure to the market.

Speaking of which, a lot of investors have written to ask me whether I would consider adding either international fixed-income or gold bullion exposure to the portfolio.

As readers of this site know, I’m not a big fan of gold as a core exposure in portfolios (although I’ve been very, very wrong about this for a number of years). If you were to add gold, the iShares COMEX Gold ETF (NYSEArca: IAU) would be your lowest-cost option, with an expense ratio of 0.25 percent.

I increasingly believe that international fixed income should be a core part of investor exposure. In that case, the iShares S&P/Citigroup International Treasury ETF (NYSEArca: IGOV) is the cheapest option, with an expense ratio of 0.35 percent. Pending further analysis, IGOV may make its way into the portfolio at some point.

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