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ETF’s… Are Fees The Only Thing That Matters?

[1]Earlier today, I was reading an article about how iShares is losing market share in the ETF space. It remains the biggest player but Vanguard has been increasing its AUM (assets under management) several times faster than iShares in the past 2 years or so. Why? It seems to come down to only one thing. “Fees”.

How Much Do Fees Actually Matter?

I think the importance of fees cannot be overestimated. I wouldn’t go as far as saying that it’s the only thing that matters but it’s fairly close. After all, one of the two main reasons why ETF’s have gained so much popularity is because they charge fees that are so much lower fees than competing mutual funds (the other one being that they trade intra-day). So if you are going to switch from a mutual fund that charges 1.50% to track the S&P500, then why go for an ETF that is not charging the lowest MER? There would be no point…

Exactly What’s Happening….Vanguard Crushing iShares

For most big ETF’s that iShares has, Vanguard was able to launch a competing product that charges a fraction of the cost. The best example is EEM which tracks the MSCI Emerging Markets index. It charges 3 times more than the competing VWO from Vanguard which tracks the same index. There are very few reasons why someone would be holding EEM instead of VWO and while it did take several years, VWO went from a tiny competitor to finally overtaking EEM in terms of AUM.

There Are Exceptions..Why You Would Not Buy The Lower Fee ETF…

In most cases, it makes perfect sense to go for the cheaper alternative but there are exceptions or things to look out for, here are the main ones in my opinion:

1-Liquidity: In the earlier days, VWO probably had a lot less volume which could end up meaning wider spreads, especially on more volume. Such “hidden costs” can end up meaning a lot more than what you are saving in fees. It’s true that EEM still trades a lot more than VWO (in terms of volume), but both trade with a $0.01 spread so there is no need to go for the more liquid name. If there is a clear winner, I would usually go for the more liquid name even though the MER might be a bit more expensive.

2-Derivative: Many traders have trades related to the ETF they own. For example, if you are trading options on EEM (which are much more liquid than options on VWO), you’ll be much better off trading EEM because they might not (especially on indexes that are difficult to track like the MSCI Emerging Markets index) perform exactly in the same way.

3-Different Index: Some ETF’s look similar but are actually very different and it’s important to understand what an ETF owns or what it tracks before jumping ship. For example, IVW tracks the S&P500 growth index which is NOT the same thing as the S&P500. It’s important to be sure of what you’re buying.

In your experience with ETF’s, have you generally gone for the cheaper one? When not, why?