Fidelity attracted more than $7 Billion from Zero-Fees Index Funds (funds which have zero expense ratio) launched in August 2018 for the US investors.
Is Zero-Fee The New Trend?
Funds with low or zero fees are the latest fad in the asset management industry that has drawn a lot of attention from the media. It’s a wonderful thing that there is a focus on reduction in fees and we should all thank Vanguard founder, John Bogle, for that. Why should an investor pay Asset Managers fees for merely mimicking a major index like the S&P 500?
But the important thing to keep in mind is what’s in it for you and how much do you as an investor earn in net return after adjusting for all kinds of fees. Low or zero-fee funds are good investment options provided their returns net of fees is higher than that of their peers.
Employees investing through their 401k/403b account for retirement have many choices within their employer plan, which is nerve racking. Investors like to test all factors and worry about the higher fee funds in the investment line-up. Fees are easy to understand and compare, hence most investors advisors incline towards low fee index funds. Major asset managers have engaged in “endless” fee wars, with Charles Schwab, Vanguard and Blackrock’s iShares ETF families constantly reducing management fees on index and ETF funds.
Fidelity’s new zero-fee funds appear to be the latest arsenal in this war. The investors will not pay any fees but also there is also no minimum investment size required, which translates to no barriers or nuisance fees. That sounds great. Isn’t it? This move by Fidelity makes it cheaper to invest in a well-diversified mutual fund. Fidelity plans to lower fees on other mutual funds by an average of 35% and introduce no minimum investment criteria for the low fee funds.
Fee Impact On Your Portfolio
Let’s understand the impact of fees on your investment portfolio. A 5 basis points (0.05%) reduction i.e. going from 0.05% to zero means a saving of $5 on a $10,000 investment. If the returns of a similar fund in the same category are higher by 0.05% or 5 basis points, the net return to you is the same. Alternatively, you can use 401k Fee Calculator. The above chart shows your net returns after fees from major asset managers. If you focus on the Equity Mid-cap funds (blue bars), Blackrock’s net return is higher than peers by 3.84% despite higher fees in the category. As an investor, you could have missed an opportunity to earn an excess return of 3.84% if the decision to invest (or not) was based purely on fees. To make the comparison easier, we have reduced the fees from the gross return to reflect net returns to investors. Similarly, in the Equity Small-cap, Fidelity is an outperformer, while Vanguard is the best performing fund in the International category.
Because of constant coverage of zero-fee funds or low-cost account management in the media, the common investor focuses less on other important aspects of the funds and overall portfolio. They often forget to evaluate these investments on other more important aspects such as returns, risks, portfolio diversification, and the management team.
Did You Make The Right Decision?
So you think you made the right choice by investing in zero-fee funds. How about taking more of a holistic approach to testing investment options? Is your portfolio diversified? What’s your return net of fees? These are the questions you should ask yourself.
Our free app, Plootus, provides unbiased advice and assists you in choosing the right investment options from your 401k/403b plan. We don’t sell you any funds but assist you in optimizing your 401k/403b portfolio. We are on a mission to democratize financial planning and make it available to everyone!
Plootus app (Apple and Android) will choose the best performers for your retirement needs and help you to decide how much to invest in equity or bond etc. funds available to you. Our algorithm first estimates how much money you will need for your retirement period and then uses AI for recommendations.
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