VWO Expense Ratio Drops, Matches SCHE

February 27, 2014

Vanguard’s VWO can now share bragging rights with Schwab on offering the world’s cheapest emerging markets ETF.

The annual expense ratio of the huge Vanguard FTSE Emerging Markets ETF (VWO | C-89) has dropped by almost 17 percent to 15 basis points, or $15 for each $10,000 invested—a decline that matches the cheapest-in-class price tag of the Schwab Emerging Markets Equity ETF (SCHE | C-87).

Apart from VWO, Vanguard said today in a press release that expense ratios fell on four other Vanguard ETFs as well. Crucially, Vanguard hasn’t “cut” expense ratios. Rather, its funds all hew to a so-called nonunitary fee structure, meaning their expense ratios fall based on asset-gathering. The greater the assets, the cheaper the cost to each investor, because costs are spread over a bigger asset base.

VWO’s previous annual expense ratio of 18 basis points, or $18 for each $10,000 invested, is still the price of the iShares Core MSCI Emerging Markets ETF (IEMG | B-98), the fund that came to market in October 2012 as part of iShares’ 10-fund effort to aggressively join the ranks of ultra-cheap ETF sponsors.

The four other ETFs with lower expense ratios, and the decreases, are as follows:

  • Vanguard FTSE All-World ex-US Small Cap ETF (VSS), a 20 percent drop that lowered the fund’s expense ratio to 20 basis points, or $20 for each $10,000 invested
  • Vanguard Global ex-U.S. Real Estate ETF (VNQI | B-68), a 15.6 percent drop that lowered the fund’s expense ratio to 27 basis points, or $27 for each $10,000 invested
  • Vanguard Total International Stock ETF (VXUS | B-95), a 12.5 percent drop that lowered the fund’s expense ratio to 14 basis points, or $14 for each $10,000 invested
  • Vanguard Total World Stock ETF (VT | B-96), a 5.3 percent drop that lowered the fund’s expense ratio to 18 basis points, or $18 for each $10,000 invested

All the lower expense ratios are based on asset flows in the 12 months ended last Oct. 31—the end of each of the funds’ fiscal years.

“Generally, expense ratios are backward-looking, meaning they are based on actual operating expenses reported from the prior fiscal year,” Vanguard said in the press release, isolating an underappreciated aspect of ETF and mutual fund expense ratios.

VWO’s Devil In The Details

Regarding VWO, it’s important to recognize that the lower expense ratio on VWO was based on asset flows into all share classes of the Vanguard FTSE Emerging Markets Fund during that 12-month period.

That matters because Vanguard’s ETFs are a separate share class of a much broader and identical portfolio, and the ETF share class actually had outflows of $5.76 billion in that Halloween-to-Halloween period, according to data compiled by ETF.com Analytics.

Emerging markets have suffered outflows since former Federal Reserve Chairman Ben Bernanke signaled last spring that the U.S. Central Bank was likely to begin “tapering” its five years of “quantitative easing” bond buying designed to keep credit cost low in the delicate post-2008-crash economy.

So far this year, VWO had suffered outflows of $3.5 billion—a further sign that the changing interest-rate picture in the U.S. is affecting international asset flows.


However, in the given 12-month period ended in Oct. 31, 2013, other share classes of the Vanguard emerging markets portfolio—notably “Admiral” and “Signal” that are focused on institutional investors—had inflows during those 12 months that offset the outflows from VWO, a Vanguard representative told ETF.com.

That likely reflects the general stickier nature of mutual fund assets relative to ETFs, the representative said—an interesting distinction that speaks to the intraday tradability of ETFs. By comparison, an open-end mutual fund can only price after the market close.

For the record, flows into the four other ETFs with lower expense ratios—namely, VSS, VNQI, VXUS and VTI—were all positive, as were flows into the other asset classes.

Differing Fee Structures

As noted, all of Vanguard’s funds use the “nonunitary” fee structure by which expense ratios are governed by asset flows.

Most funds also market strategies with such a structure, though some—including the Nos. 1 and 2 ETF sponsors iShares and State Street Global Advisors—use both the “nonunitary” fee structure and the “unitary” fee structure that requires executive action on the part of the funds’ governing board to actually change an expense ratio.

Again, the declines in expense ratios on the five Vanguard funds including VWO were based on positive asset flows for the 12 months ended Oct. 31, 2013. That means that, say, VWO’s actual expense ratio today is likely different than the stated number today.

That said, fund companies must report asset flows to the Securities and Exchange Commission, and Vanguard detailed its asset flows for the 12-period in a filing with SEC dated today—Feb. 27, 2014.


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