ETF Fee Compression: A Snapshot

July 24, 2018

[Editor’s Note: The following originally appeared on Elisabeth Kashner is director of ETF research and analytics for FactSet.] 

In the half year through June 30, 2018, three U.S. ETF issuers—BlackRock, Vanguard and Charles Schwab—captured 81% of all net U.S. ETF inflows. These three firms’ asset-weighted average ETF expense ratio was a mere 0.16%.

Lest you think ETF issuers can count on charging even that, consider that two of those three issuers—the ones that grew their market share—charge their clients much less than 0.16%, on average. BlackRock, with 39% of ETF assets at the beginning of the year, drew only 36% of the net ETF flows, resulting in a drop in market share. Vanguard captured 32% on a base of 25% of the starting AUM. But the stunner here was Charles Schwab, which attracted 13% of the flows despite controlling only 3% of the assets at the outset. Vanguard ETFs now cost 0.07% on an asset-weighted average basis; Schwab’s cost 0.09%. BlackRock’s 0.22% wasn’t particularly competitive.

No wonder asset managers are finding it harder and harder to make a buck these days. Fee compression is happening everywhere. Investors are all but demanding free access to portfolio management. Low fees are drawing assets from mutual funds to ETFs, from active management to passive, and toward ever-cheaper ETFs. ETFs that once held market share by offering unmatched liquidity are now losing ground to cheaper equivalents.

High-Cost Mutual Funds Continue To Bleed

Once again, in the first half of 2018, assets fled equity mutual funds. According to the Investment Company Institute's estimates, equity mutual funds lost $47.57 billion in investor assets between January and June. During that same span, equity ETFs raked in $70.67 billion, per FactSet ETF Flows data.



While bond mutual funds and ETFs saw positive inflows, bond ETFs pulled well above their weight, capturing 3/8 of the bond fund flows, on a base of only 1/8 total bond fund assets.

Fees explain a lot here, both within the mutual fund space and between mutual funds and ETFs. As of the end of 2017, equity mutual funds charged an asset-weighted 0.59%. Equity ETFs charged just 0.21% at that time (excluding geared funds). Bond mutual funds cost 0.48% on an asset-weighted basis, while bond ETFs cost just 0.19%. No wonder dollars are leaving mutual funds for ETFs.

Index Mutual Funds Keep Getting Cheaper

Within the mutual fund space, assets are migrating to low-cost index funds. The ICI 2018 Fact Book data tables show $285 billion flowing out of actively managed equity mutual funds in 2017, while equity index funds gained $125 billion. Since 2008, active equity mutual funds have lost $1.55 trillion, while index equity funds have gained $728 billion.

During that time, fund costs have fallen even more precipitously for equity index mutual funds compared to actively managed ones. Per the ICI data tables, in 2008, index mutual funds charged 19% of the actively managed cost, on an asset-weighted basis, or 0.18% compared with 0.94%. By the end of 2017, index mutual funds had cut charges in half, to 0.09%, while actively managed equity funds had trimmed fees by only 17%. Index equity mutual funds now cost 0.09% per year, while active management runs 0.78%, both on an asset-weighted basis. Mutual fund assets are rapidly migrating to the lowest-cost options.

The chart below shows the fee difference over time. The diameter of the circles shows the size of index mutual fund fees in relation to active management fees for U.S.-domiciled equity mutual funds.


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