The ETF versus mutual fund debate has been raging for a number of years. For value-conscious passive investors part of the lure of ETFs and mutual funds is their low fees.  

ETF advocates have argued that traditional mutual funds cost more. “Mutual fund fees vary depending on asset class but usually (come in) between one to three percent,” reports the Winnipeg Free Press. Similar media accounts prompted bfinance to take a closer look at the cost structure of both with some surprising results: within traditional asset classes and European markets there is actually little difference in the cost structure of trackers and mutual funds. In some cases, mutual funds have lower fees than ETFs. 

We compared the management fees of 11 established trackers and seven mutual funds specialising in global equity (5), European equity (8) and European bonds (5). We covered a number of established asset managers in the industry, including Lyxor, BNP Paribas, Barclays, State Street Global Advisors, Deutsche Bank and Vanguard. The total average fee for ETFs was 31bps compared to 28bps for mutual funds. Of the three categories, global equity was the most expensive with an average ETF fee of 47bps compared to 30bps for mutual funds. 

World equity 

Barclays Global Investors was at the high end of the ETF group. Its Ishares MSCI World equity ETF charges 50bps. Within the same group, State Street Global Advisors’ Balzac World Index fund charges only 30bps. Looking at European fixed income, the average tracker fee was 18bp, with Barclays (iShares Corporate Bonds) at the high end (20bp) and Lyxor Asset Management (Lyxor ETF Euro MTS Global) at the low end (17bps). Meanwhile, in the bond category, mutual fund giant Vanguard Euro Investment Grade BD charges 30bps. 

Tracker fees for European equities ranged from 25bps to 50bps compared to 15bps to 40bps for mutual funds. Deutsche Bank’s Dow Jones Euro Stoxx 50 had the lowest (15bps) management fee among mutual funds. There was no difference in the average fee charged for European equity between the two groups (30bps). 

Hidden ETF costs  

Trading costs (such as the spread between bid and ask) constitute another source of expense for ETFs that are not reflected in advertised fees. Mutual funds do not have such costs. During the first six month of 2007 the average bid/ask spread for Lyxor’s ETF MSCI World was 25bp, according to Euronext. There are also striking differences between the bid/ask spreads of ETF funds. For example, BNP Paribas’ EasyETF Global Titans 50 had an average spread of 1.28%.  “

ETFs offer the advantage of liquidity and intra-day trading,” says Samuel Raoul, consultant at bfinance. “Investors, however, should pay attention to the spread between the bid and ask which reflects the costs of entry and exit. When considering European equity, iShares €3.8bn DJ STOXX 50 EUR had an average spread of 9bps in the first half of 2007 compared to just 3bps for Lyxor’s €5bn ETF Eurostoxx 50.”        

The results, while not meant to be comprehensive, offer a starkly different picture than one offered by investors who point to the high management expense ratios of mutual funds. In fact, there does not seem to be a significant cost difference between the two passive vehicles, at least not within the asset classes and geographies we looked at. Yet ETFs do offer significant differences beyond cost and they are clearly wooing more institutional investors. In early 2007, there were 26 TSX-listed (Toronto) ETFs with assets of $15.2bn compared to only three totalling $6bn in 2000, according to Investor Economics.  

There may be other reasons as to why investors have turned to ETFs. They offer the ability to buy or sell intraday. Traditional mutual funds are valued only once a day. In addition, ETF holdings are disclosed daily, allowing for high transparency while many mutual funds disclose their holdings semi-annually. Finally, one can short ETFs like stocks. While all of these are compelling reasons to consider ETFs, the case for cost is clearly overstated. 

VB