Digging deeper into the lower-fee movement

New research uncovers finer trends beneath a broad decline in asset-weighted fund fees

Digging deeper into the lower-fee movement

The pressure that’s driven fees down in recent years continues to be a dominant theme, as confirmed in new research from Morningstar.

In its recently released US Fund Fee Study, the firm found that fees for open-end mutual funds and ETFs south of the border have dropped by about half over the past 20 years. In 2018 alone, average asset-weighted fund fees dropped 6% to 0.48%, creating an estimated US$5.5 billion in savings for investors.

The industry has certainly come a long way: Morningstar calculated that average asset-weighted fees stood at 0.93% in 2000. That’s been driven largely by investor cost-consciousness, which appears to be even more acute than previous findings suggested.

“This year, for the first time, we looked more granularly at flows within the cheapest 20% of all funds,” said Ben Johnson, Morningstar’s director of Global ETF Research, in an interview with ETF.com. “[T]he lion's share of the money went into the low-cost quintile of funds, which in and of itself accounted for all of the net new money going into funds in 2018.”

Comparing passive and active funds, the study found that average expense ratios have hit 0.15% for passive strategies and 0.67% for active ones. In their pursuit of the “cheapest of the cheap” funds, investors have thrown significant amounts of money at index-tracking products.

At the same time, Johnson said, the underlying management costs for many active products have been fairly stationary, which has generally prevented active managers from competing on price. Pockets of the active universe have also held up comparatively well, particularly in the fixed-income space. “[A]ctive stock funds have been the epicenter of the mass exodus from active strategies, broadly speaking,” he said, adding that the issue has most notably plagued stock pickers with a growth orientation. 

Another challenge for active managers comes from strategic beta funds, which Johnson believes have become a reference point for fund selectors and investors. Aside from their meaningful cost advantage — the asset-weighted average fee for strategic beta was reportedly 0.17% in 2018 — the ETF chassis that the strategies are bolted onto offer a considerable tax-efficiency advantage. But while smart-beta strategies promise a middle ground between passive and active ones, critics may question the factors underlying such strategies.

The study also found that the broad movement toward fee-based advice may also be helping the shift toward lower fund fees. As Johnson explained, advisors who use the fee model will almost inevitably favour lower-fee funds, as such funds would leave more room for them to charge fees for portfolio management as well as other services.

And while the trend toward zero-f tee funds is a net positive for investors, he acknowledged that such funds create a risk of making investors too focused on fees and ignore other implicit costs. “[W]hat does ‘free’ mean when you have nothing really to compare [a fund] to, when there's no like-for-like and when the opportunity costs, as measured in terms of relative performance, might be meaningful?” he said.


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