Vanguard: Expenses Drop on Index ETFs | Adviser Investments

Vanguard Slashes Expenses on 15 Index ETFs

How Low Can You Go? Vanguard Slashes Expenses on 15 Index ETFs

The limbo bar keeps getting lower in Malvern, Pa. This month, Vanguard announced that it had cut fees by 25% to 33% on 15 of its S&P 500 and Russell index-based exchange-traded funds (ETFs). The move marked the latest fee-friendly initiative for the fund giant after it significantly expanded its list of transaction-free ETFs earlier this year. And there may be more where that’s coming from.

For regular readers, you know that the ongoing fee wars waged between fund companies has been great news for investors, with zero-commission trades and fee-free funds becoming increasingly common as competitors fight to lift the low-cost crown off Vanguard’s head.

As we learned from Vanguard’s annual reports for the fiscal year ending Aug. 31, 2019 (which are filed several months after the fact), assets in the 15 funds grew by 8% during the prior 12 months, while expenses over the same span came way, way down. Vanguard is typically able to snip expenses by 0.01%, 0.02% or sometimes even 0.03% over the course of a year. Cuts of the magnitude of 0.04% or 0.05% like those detailed in the table below are extremely rare.

So how could they make these fee cuts given the relatively paltry asset growth in the underlying portfolios? Our best guess is that Vanguard was able to renegotiate its licensing agreements with S&P and Russell, enabling the dramatic cost reductions.

Source: Vanguard annual reports for periods ending 8/31/18 and 8/31/19; last six months is the period from 2/28/19–8/31/19.

Digging deeper into the numbers, we think it’s possible that Vanguard is preparing to drop expense ratios on these 15 funds from a range of 0.12% to 0.20% to as little as 0.04% to 0.11%. That’s an even larger percentage drop than those for fiscal 2019.

What’s the basis for that assumption? Reading over publicly released audited financial statements, “management and administrative” costs for the ETFs in the table above fell over the second half of their fiscal years by between 43% to 71%. We didn’t see any other ETF-specific costs with consistent drops anywhere approaching this scope among Vanguard’s offerings. In fact, costs have risen for certain funds, such as the more than doubling of the S&P MidCap 400 ETF’s “marketing and distribution” expenses, from $26,000 in the six months ended Feb. 28, 2019 to $56,000 over the six months following.

Turning back to the fee cuts on the horizon, it’s worth noting that these numbers are estimates, not guarantees. Because Vanguard (or any other fund company) can’t know exactly how much it will cost to run a fund until after the fact (trading, market moves, asset flows and other factors all have an effect on the actual operating costs over time), they always give themselves some wiggle room. Hence, in every Vanguard prospectus, you’ll find language that reads: “The following table describes the fees and expenses you may pay if you buy and hold shares of the Fund.” For the same reason, Vanguard used to write that prospectus expense ratios were “estimated” in its reports.

In short, circumstances can change, and forward-looking expense ratios are not set in stone; they could go up or down.

We’ll be looking out for the new prospectuses for these 15 Vanguard index ETFs in late December—and we’re anticipating big expense ratio cuts.

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Fourth-Quarter Outlook: Impeachment and Trade War

As 2019 comes to a close, tariff actions and trade-war rhetoric, an impeachment inquiry, Brexit uncertainties, a potential global economic slowdown and the clamor raised by 2020 electioneering could all prove to be disruptive. But, so long as the fundamentals—earnings, interest rates, economic data—remain strong, it seems just as possible that markets could also continue to climb.

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