How ETFs charge fees

While they typically include day-to-day operating expenses, management fees, custodial services, marketing costs and brokerage, ETFs usually have lower total expenses - aka management expense ratios (MERs) - than comparable investment products, like (unlisted) managed funds or listed investment companies (LICs).

Actively managed funds command higher fees (than ETFs) to cover expensive research and higher transaction costs, plus a performance fees - in the hope they’ll outperform a particular index.

By comparison, most ETFs are designed to be passively managed, and hence don’t carry the costs associated with trying to beat the market. Nor do they bear the costs associated with having to sell some assets to cover the redemption when a unitholder wants to exit a managed fund.

How ETF fees compare

The MER for ETFs averages out at 0.49%, compared with 1.6% for active managed funds. While active managers need to outperform their relevant benchmarks by at least the management fee percentage before adding value to investors, 81% have failed to so over 10 years.

By comparison, the average MER of an LIC is over 1% p.a, excluding performance fees and/or costs associated with higher portfolio turnover. But despite higher fees, only one in 10 LICs tracking broad global markets was able to beat a global market index ETF over the past year.

Managed funds and LICs aside, financial advisers typically charge annual fees of between 1% and 2% of the total value of your portfolio, which excludes a one-off fee for a statement of advice, (~around $1,500). While the fees charged by investment platforms depends on the range of services investors’ choose, they tend to be around 1% of the assets held within it.

Then there are self-managed super funds (SMSF) which in additional to ad hoc costs, will incur accounting and audit/admin costs of around $2,000 annually.

Fees are wealth destroying

Given that ETF fees are subtracted from the net asset value (NAV) of the portfolio daily - and hence don’t appear on any investor’s statement - it’s incumbent on you to find out what they are. If you think higher fees have little overall impact on your returns, think again.

Because fees compound over time, just like portfolio assets, the longer the investing period, the bigger the loss (see table).

Here’s what the impact of fees will do to $100,000 invested over 30 years.

Source: ASIC’s MoneySmart managed funds fee calculator

Assumptions: Initial investment amount $100,000; Investment earnings 9.2%