Investment management fees for exchange-traded funds (ETFs) and mutual funds are deducted by the ETF or fund company and adjustments are made to the net asset value (NAV) of the fund daily. Investors don't see these fees on their statements because the fund company handles them in-house.
Management fees are just a component of the total management expense ratio (MER), which is what should concern investors.
Key Takeaways
- Management fees include expenses ranging from manager salaries to custodial services and marketing costs.
- These fees reduce the value of an ETF investment.
- They're a subset of the total management expense ratio (MER).
- MERs are generally lower for passive funds than for active ones.
- Higher fees can have a large impact on overall investment returns because fees compound over time.
ETF Fees
An ETF company incurs expenses ranging from manager salaries to custodial services and marketing costs as part of its normal operations. They're subtracted from the NAV.
Assume an ETF has a stated annual expense ratio of 0.75%. The expected expense to be paid over the year is $375 on an investment of $50,000. The investor would slowly see their $50,000 move to a value of $49,625 over the year if the ETF returned precisely 0% for the year.
The net return the investor receives from the ETF is based on the total return the fund earned minus the stated expense ratio. The NAV would increase by 14.25% if the ETF returns 15%. This is the total return minus the expense ratio.
The Impact of Fund Expenses
Fees are important because they can have a huge impact on your ultimate returns. A $100 investment that grows by 7% a year would be worth $197 in 10 years without fees. Subtract a 1% annual fee and the result is $179. Fund expenses have eaten up approximately 10% of your potential portfolio. Fees compound over time just as portfolio assets do so the longer the investing period, the bigger the loss.
Ways to Minimize Expenses
Some funds are more expensive than others. A critical distinction is passive versus active management.
Passive managers simply mimic the holdings of a stock index, often the S&P 500, sometimes with minor deviations. These "index fund" or "index ETF" managers periodically rebalance fund assets to match the benchmark index. This incurs trading costs but they're usually minimal.
As the name suggests, active managers take a greater hand in choosing fund assets. This requires expensive research departments that passive funds don't have and usually a higher level of trading that elevates transaction costs. All this is reflected in the MER.
The asset-weighted average expense ratio dropped from 0.61% in 2021 to 0.59% in 2022, the last full year for which statistics are available. Expense ratios for passive funds declined from 0.13% in 2021 to 0.12% in 2022.
Studies of ETF Fees
Morningstar estimates investors saved $9.8 billion in fund expenses in 2022, the last full year for which statistics are available. Investors are benefitting from less expensive fund options as competition between fund companies increases.
Companies are moving toward fee-based compensation models and away from traditional transaction-based models, according to Morningstar. Customer rejection of costly funds is evident in net inflows and outflows. The cheapest 20% of funds saw inflows of $394 billion in 2022. The remaining 80% saw outflows of $734 billion.
The popularity of low-cost robo-advisors is another factor driving down the cost of wealth management services and putting pressure on fund companies to keep expense ratios low. Many investors are responding favorably to the rapid digitalization in investment services and the ability to build high-quality portfolios for a minimal cost using easily accessible online platforms.
The worldwide robo-advisory market is expected to be valued at $129.5 billion by 2032, growing at a compound annual growth rate (CAGR) of 32.5% between 2023 and 2032.
Which Funds Have the Lowest Fees?
Passively managed funds like index ETFs tend to have lower fees than actively managed mutual funds. Broad-based funds tend to have lower expenses than narrowly-based funds because their management costs are distributed among a larger investor base. Vanguard claimed the lowest expense ratio among all fund managers in 2022 with average asset-weighted expenses of 0.08%.
How Much Do Brokers Charge for ETFs?
Brokerage houses may charge a commission for ETF trades just as they charge for any other market-traded security. These fees are typically around $20 per trade or less but they can add up over time if the investor trades ETFs often.
What's a Good Fee for ETFs?
The average asset-weighted expense ratio for passively managed funds was around 0.37% in 2022, according to research by Morningstar. Investors should expect to pay around $3.70 for management costs for every $1,000 of investment value.
The Bottom Line
ETF fees pay for the expenses of managing an exchange-traded fund. They include custodial costs, management salaries, and the costs of buying and selling securities. These are typically lower than the expenses for actively managed funds but they can be significant if you trade often or if the fund does poorly. These costs are automatically deducted from the fund's assets and they're reported in the fund's annual statements.
FAQs
ETF fees are accrued daily, which means they are reflected in the daily price of an ETF; however, the fees are typically deducted from fund assets on a monthly basis. From the investor's perspective, ETF fees are not directly paid like a monthly bill. Instead, they are reflected in a fund's net return.
How are ETF fees taken? ›
Investment management fees for exchange-traded funds (ETFs) and mutual funds are deducted by the ETF or fund company and adjustments are made to the net asset value (NAV) of the fund daily. Investors don't see these fees on their statements because the fund company handles them in-house.
What is fee expense ratio for ETFs? ›
The Average ETF Expense Ratio Is Lower Than Mutual Funds
The average expense ratio for index ETFs is typically lower than that of index mutual funds, historically 0.57% for ETFs versus 0.84% for mutual funds. Importantly, the higher costs of mutual funds can add up and impact portfolio returns over the long run.
How is mer charged on ETF? ›
The management expense ratio is not a fee directly charged to investors. Rather, it is deducted from the fund's net asset value (NAV). Investors are charged other fees associated with the fund – fees that are not part of the MER, and that are charged when an investor buys or sells their fund shares.
How are ETF fees paid on Robinhood? ›
Robinhood ETF fees work the same on Robinhood as on every other brokerage. You pay ETF fees to the fund management company, not the brokerage where you buy them. Therefore, the ETF fees depend on which ETF you invest in rather than which broker you use.
How does ETF pricing work? ›
In normal market conditions, an ETF share will be priced around its fair value. The concept of fair value is that each share has an intrinsic worth, based primarily on the value of the underlying securities the ETF holds. This fair value will change throughout the day as the value of the underlying securities changes.
Are ETF fees tax deductible? ›
However, like fees on mutual fund, those paid on ETFs are indirectly tax deductible because they reduce the net income flowed through to ETF investors to report on their tax returns. Other non-deductible expenses include: Interest on money borrowed to invest in investments that can only earn capital gains.
How much does an ETF transaction cost? ›
ETFs trade on a stock exchange just like a stock, so investors may pay a flat commission fee every time they buy or sell shares in a fund. Also known as ETF transaction fees or ETF transaction costs, these may range from $8 to $30 at brokerage firms.
How is the expense ratio deducted? ›
The expense ratio in a mutual fund is indicated as a percentage of the total AUM (Asset under management), representing the fund's operating expenses. These expenses are deducted from the AUM to declare the fund's NAV (Net asset value) daily, thereby reducing the overall return from the mutual fund.
Does Fidelity charge fees for ETFs? ›
The sale of ETFs is subject to an activity assessment fee (of between $0.01 to $0.03 per $1000 of principal). Fidelity ETFs are subject to a short-term trading fee by Fidelity, if held less than 30 days.
How to find the best ETF expense ratio. High fees can turn any investment into a poor one. A good rule of thumb is to not invest in any fund with an expense ratio higher than 1% since many ETFs have expense ratios that are much lower. Also, ETFs tend to be passively managed, which keeps the management fee low.
How can I avoid Mer fees? ›
How can you avoid high MER fees?
- Invest your money in exchange-traded funds (ETFs). ...
- Buy mutual funds with no trailer fee. ...
- Pay your advisor yourself.
Investors should avoid mutual funds that charge 2% MER or more. A good MER starts around 1.25%, but a great MER is less than 1%. The best example is TD's e-Series funds where the average MER is around 0.40%.
Are ETF fees deducted daily? ›
ETF fees are accrued daily, which means they are reflected in the daily price of an ETF; however, the fees are typically deducted from fund assets on a monthly basis. From the investor's perspective, ETF fees are not directly paid like a monthly bill. Instead, they are reflected in a fund's net return.
Do ETFs have hidden fees? ›
ETFs have transparent and hidden fees as well—there are simply fewer of them, and they cost less. Mutual funds charge their shareholders for everything that goes on inside the fund, such as transaction fees, distribution charges, and transfer-agent costs.
Is spy better than voo? ›
Over the long run, they do compound—those fee differences—and investors have been putting a lot more money into VOO versus SPY. That is the reason why we view VOO slightly better than SPY. And that is just the basic approach, which is the lower the investor can pay, the better the investment is.
What are the transaction costs for ETFs? ›
Trading commissions
Also known as ETF transaction fees or ETF transaction costs, these may range from $8 to $30 at brokerage firms. Trading commissions are charged per trade, so they can add up if investors buy and sell a lot—and they're usually more expensive when an order is placed in person or over the phone.
How often are management fees charged? ›
Typical management fees are taken as a percentage of the total assets under management (AUM). The amount is quoted annually and usually applied on a monthly or quarterly basis. For example, if you've invested $10,000 with an annual management fee of 2.00%, you would expect to pay a fee of $200 per year.
How do ETFs pay out? ›
ETF issuers collect any dividends paid by the companies whose stocks are held in the fund, and they then pay those dividends to their shareholders. They may pay the money directly to the shareholders, or reinvest it in the fund.
