Fidelity's New 0% Expense Ratio Mutual Fund
A few days ago Fidelity introduced the first 0% Expense Ratio on a mutual fund, specifically a total stock market index fund tracking their own made-up index. This was the logical progression of a marketing strategy that they, along with Charles Schwab, have used over the last few years with limited success in order to compete with Vanguard, who made their name and became the world's biggest mutual fund company on low-cost index funds. It looks like this:
Basically, here is the way it works:
- Vanguard Admiral Shares Total Stock Market Index Fund – ER 0.04%
- Fidelity Total Market Index Premium Fund – ER 0.015%
- Schwab Total Stock Market Index Fund 0.03%
and all of a sudden the investor who has been told that “expenses matter” assumes that differences of 1-3 basis points matter. Yes, they matter, but not very much. And in fact, once you've gotten down to differences of less than 10-20 basis points, they matter a whole lot less than some other things. That principle still applies with the natural continuation of this strategy that is happening over at Fidelity. If you missed it, it looks like this:
Based on the number of people who are actually thinking about changing their investment holdings based on this change, I would say that this MARKETING STRATEGY is working very well. Notice I said marketing strategy, not investing strategy. (A more cynical investor might even call it a publicity stunt.) There is no new investing strategy going on here. It's the same old, same old investing strategy – buy all the stocks, hold them, keep your costs and taxes down, and in the long run, your money grows at the same rate as the market and if you save enough, you become financially independent.
Is Fidelity Zero Funds Worth It?
So let's talk about what's really going on here. Let me lead you through a little logic.
- Vanguard has the largest index funds, thus they benefit the most from economies of scale.
- Vanguard operates at cost.
- Therefore, an index fund that charges less than Vanguard is operating at less than cost. Thus, it is a money loser. (And no, I don't buy the argument that Fidelity just runs a more efficient operation with a fund 1/14th the size.)
- A for-profit business only loses money on a product line for two reasons: either it will soon make money on it or it hopes to make it up elsewhere.
- If your strategy is to attract the non-sticky money using a very slightly lower ER, and then you raise prices, that same non-sticky money will then leave you.
- Therefore, the only possible reason for Fidelity/Schwab/etc to charge less than it costs to run a mutual fund is so they can make money on their other products.
Now, ask yourself the following:
- “Do I really want to support a business doing that with my investment dollars in order to save 1-4 basis points?”
- “Would Fidelity/Schwab/etc be doing this if it wasn't for Vanguard giving investors a fair shake on Wall Street?”
What Matters with Index Funds
The other thing to keep in mind, of course, is that expense ratio is not all that matters when it comes to index funds. There are really only three things to pay attention to here:
- What index?
- How well does the fund track it?
- Do I get other benefits like tax-efficiency, simplicity, status (Flagship) etc?
Notice that expense ratio isn't on that list. That's because it is baked into # 2. The higher the cost, the less well the fund tracks its index. Also, bear in mind that if you're investing in a taxable account, the return you care about is the after-tax return.
Let's look at a few examples, using fairly long-term returns (15 year annualized returns as of 6/30/18) and a neutral source (Morningstar.)
Oh crap. What does that tell you? Well, it essentially refutes the hypothesis that a lower cost index fund provides higher returns. I'm not going to argue that 9.77% is significantly different from 9.71%, but that's essentially the point. Once you get expense ratios “low enough,” you should no longer focus on them. That fact isn't going to change just because the number is 0.00% rather than 0.03% or 0.015%.
“But wait,” the critic says. “Fidelity and Schwab didn't lower their ERs until more recently.”
Okay, let's look at 1-year returns from the same source.
Nope. It just turns out that Vanguard is better at indexing than Fidelity and Schwab. Is that really a surprise to anyone? Let's dive into the details here a bit.
Which Index?
The Vanguard fund tracks the CRSP US Total Market Index while the Fidelity fund and the Schwab fund track the Dow Jones US Total Stock Market Index (and the new Fidelity fund will track its own proprietary index.) Well, which index has the highest return? It turns out there is a correct answer to this question, which some very dedicated Boglehead wiki editor has compiled.
As you can see, the total market index with the highest return is the Wilshire 5000. But whether the CRSP or the Dow Jones is a higher performing index depends on the time period you look at it. At 5 years, CRSP wins. At 15 years, Dow Jones wins. To make matters even more complicated, these index funds CHANGE which index they're following from time to time. The Vanguard fund used to follow the MSCI index, for instance. But the MSCI index has only been around since 2004, the year I started investing. That means the fund used to track a completely different index.
My point is that which index you track matters a whole lot more than a couple of basis points in expense ratio.
How Well Does A Fund Track Its Index?
Not only does the index matter, but how well it tracks its index matters too. This information is readily available on each company website:
The index is spliced to reflect the fact that they've tracked multiple indices in the past. But as you can see, Vanguard does a VERY good job of tracking its index. In fact, the tracking error (0-0.02% depending on time period) is less than the expense ratio. How can they do that? Well, that's one advantage of being big. Not only do you benefit from economies of scale, but you also have a lot of stocks to lend out to short sellers, and because you're running it at cost, you pass those benefits on to the shareholders.
Don't worry, Fidelity and Schwab do a fine job of tracking their index too, maybe even a better job than Vanguard.
But there are index funds that do a terrible job. Check out the Rydex S&P 500 fund.
Yea, that's right. It underperformed its index by 2.5% per year over 10 years. The fact that this fund still exists might be the best example of a lack of financial literacy among investors that I know of. 2%+ for an index fund ER. Unbelievable.
Additional Factors
So, now that we've seen that the difference in expense ratios among Vanguard, Fidelity, and Schwab matter far less than which index is tracked and how well it is tracked, let's consider some other factors.
Tax Efficiency
Vanguard has a HUGE advantage here, as it can “flush” its capital gains out by using its ETF share class, which Fidelity and Schwab do not have. Consider the after-tax returns for the last 5 years (once more, this is all per Morningstar as of 6/30/18):
Now I'm not going to argue that 1-3 basis points matter much, but 23? You're starting to get my attention now.
Simplicity
Let's say you're not just investing in a basic 3 fund portfolio. You actually want a half dozen or more asset classes in your portfolio. Such as small cap value. Oh wait, Fidelity doesn't have a small value index fund. Neither does Schwab. Yet Vanguard has had one for two decades. Maybe a better strategy for Fidelity would be to offer index funds in asset classes that Vanguard doesn't (International Small Cap Value anyone?) rather than getting a “me-too” drug fund and spending all its money on marketing instead of research and development.
I'm amazed to hear about investors thinking about switching from the Vanguard to the Fidelity Total Stock Market fund, or worse, switching to the brand new 0% ER Fidelity fund. That's not even worth my time to fill out the rollover paperwork, especially since I'll then have assets at both institutions (or else pay fees each time I buy and sell the other's fund.) That'll make rebalancing fun. And to pay capital gains taxes in order to switch? Now you're really making a mistake.
Status
In addition, spreading your assets among multiple institutions will also delay the time it takes to reach “fancy-pants” status at that institution. At Vanguard, Flagship status ($1M invested) gives you a personal representative, some free advice and trades, and some other assorted minor benefits. Fidelity has something similar (Private Client), but it's not nearly as good, like most of what is at Fidelity.
Should You Switch? The Bottom Line
If your money is already at Fidelity or Schwab and you have a simple portfolio, go ahead and use their index funds guilt-free, especially if you're in a tax-protected account. But if your money is at Vanguard like mine, there is absolutely NO reason to switch based on trivial differences in expense ratio. And you certainly don't want to pay any capital gains taxes to switch one way or the other. The reason that Vanguard is the biggest mutual fund company in the world is that they've earned the trust of millions of investors by doing the right thing over and over and over again. Are they perfect? Not even close, but ownership matters, and in the case of Vanguard, you're the owner. Show a little loyalty to your own company. They're still doing the right thing.
What do you think? Were you impressed by these ER reductions? Why or why not? Comment below!
Great article, WCI. I actually found this really helpful and insightful. I’ve always wondered that question, “How well does an index fund follow it’s index?” Cool to see how that works out for the various companies. It makes sense to me that tax efficiency would matter the most, with the advantage going to Vanguard given the size of their funds.
I will give it to Fidelity for targeting a group of investors that know enough to hurt themselves. There are a lot of people who know expense ratios matter, but don’t know about the other fees/costs involved (12b-1 fees, loading fees, taxes, etc). Fidelity is attacking a very specific group of people who know enough to make this change, but not quite enough not to.
TPP
Great analysis WCI, I did a post showing some simple portfolio examples and what the fee-differences alone would change. I think the bigger advantage for the Fidelity funds over Vanguard is for new investors just getting started or low-income investors and it’s the fact that they have no minimum investment.
VTSMX requires $3000 and VTSAX $10,000. Lots of folks in the FI community consider $3k something they find in their couch cushions, but they forget that many low income folks or new investors simply do not have $3000 to start with. So with the Fidelity funds they can get started with a hundred bucks.
That said, I’m a Vanguard guy and am not switching. But it’s good to see the competition in the industry.
Well that was my point- you can’t just hold everything else equal and look at the ER because there’s more to it than that, especially at these tiny differences.
Maybe there’s something good about Vanguard’s admittedly low minimums. It forces people to save a little more to get something they want and at that stage of life, the ability to save/savings rate matters more than the ER.
That said, I wouldn’t be surprised to see Vanguard match Fidelity on this point. Unfortunately, it’s going to cost you and I money since someone has to subsidize those costs of servicing tiny accounts.
I am planning on starting new solo 401k in Fidelity vs TD Ameritrade ( not in Vanguard due lack of roll over options).
In that case would you still go with Vanguard founds or Fidelity/TD Ameritrade??
Depends on the funds. If you’re sticking with the big index funds at Fidelity (TSM, TISM etc) then I’d just use the Fidelity funds. If you want more esoteric stuff (small value) I’d go with the Vanguard ETFs.
One can open an account with Vanguard by buying one share of an ETF. I did it, buying one share of VTI. Have other VG funds, elsewhere, will move them to VG later.
In response to Accidental FIRE
Good point Blue-Collar Guy RE. I teach Personal Finance to students at a very low socio-economic school and the $3,000 minimum is unimaginable to many of them.
One downside of the ETFs is that they are a little more complicated to buy because you need to put a quantity and price for your limit order. You will also always have some money left out of the market unless you pay the capital gains to sell once you get up to the $10,000 cutoff for VTSAX. That said, most of my students will probably be in a low enough tax-bracket that the capital gains will be taxed at 0%.
At this point, they are competing on things other than price (fees / expense ratio). Things like numerous physical branches, a good website and app, and solid phone customer service. But most of all, perception/advertising and brand loyalty.
-WSP
I would argue that the more meaningful attribute of Fidelity’s Zero marketing program is the ability for young/new investors to buy into the lowest cost share classes of their mutual funds (which previously required $10,000 at Fidelity or Vanguard) with no minimum investment.
So a new intern, for example, could theoretically start investing in a Total US or International market index for $50 or $100 per biweekly pay period. Not a huge investment but a nice way to get into the saving and investing habit, with the best investment options, while young and early in one’s earning career. For those who never get to earn MD salaries, there is no better way to get into these asset classes.
I have a sneaking suspicion the zero fee funds will not be available in many employer sponsored plans (mine is at Fidelity and I don’t see them listed as options). I guess if this lower income person is doing it within a roth IRA that’s fine, but most people who are filling their tax-advantaged space and opening a taxable account will have no problem getting up to 10k
My brother who is a new intern asked me to help him with setting up his Roth IRA/general brokerage acct. He currently has zero investment accounts anywhere, so I suggested Fidelity to him for a couple reasons: zero minimums for an account and starting investment makes it easy to start, fidelity has a Visa card that earns 2% rewards that can go straight to a brokerage acct to make it super easy to save, and the i401k from fidelity offers 401k rollovers into the plan so after he eventually graduates and has a side hustle he can have a place to roll his residency 401k into to continue his backdoor Roths. I have my taxable at Schwab because my work 401k is there and their set up process was super simple, and my husband is a vanguard diehard because his father before him is a vanguard diehard. I think we will all be fine in the end, though the original post regarding the after tax returns makes me question myself a bit. I am planning on helping my brother set things up in October when he gets some vacation time to come home. Are my reasons stated above good enough for a fresh intern with a negative net worth and basically no knowledge about investing? He will basically only be able to contribute to his work 401k and then do the Roth each year.
Sure, there’s nothing wrong with Fidelity if it meets all/most of your needs. Certainly there are some advantages over Vanguard there. These new 0% ER funds aren’t one of them though.
That’s nice, but it’s an awfully short period of time for most readers of this site. How long did it take you to get to $1,000 to invest in a target retirement fund, $3,000 to invest in investor shares funds, and $10,000 to invest in admiral share funds? And below those amounts, does the ER really matter anyway? 0.1% of $1,000 is $1 per year.
Not so much a lasting advantage for readers of this site, but excellent for getting people, in general, to invest, The more barriers you put up to saving/investing, the easier it is not to do it.
I do remember, as a resident, investing in Vanguard Star because it allowed a $1000 initial investment. (That’s probably like $2000 today.) I was earning $28,000 or so at the time so scrounging up $1000 took a few months.
I honestly didn’t invest anything until 1 year into my attending life simply because I didn’t know or think about compounding interest. The first year out I was just attacking my student loans with a vigor while only maxing my work 401k. After the loans dwindled was when I started thinking about where else my money could go and what it could do for me I’m trying to help my brother be better than me, and psychologically, the lower the barrier to get started the better. Cheers to Bogle and the revolution though!!
No. Not only is STAR still $1,000 minimum, but so are all the TR funds.
All these arguments about Fidelity having a lower status barrier for smaller investors to get into their lowest cost funds I just don’t understand. Why is everyone so focused on mutual funds and admiral (or whatever fidelity calls it) shares when any investor can simply buy the ETF version for the same ER as the admiral class mutual fund (at least with Vanguard)? No minimums, so the argument is irrelevant; no commissions with Vanguard either.
You could argue bid-ask spreads but for the largest ETF’s it’s almost always negligible; and I would argue for long term investors it’s especially negligible. And while trading at the market close NAV may sometimes yield a benefit if lower/higher (depending if you’re buying or selling) than an intraday point, it’s just as likely for the opposite to be true.
Unless someone can point me to an article showing the supremacy of equal ER admiral funds to the same index ETF, I will continue to prefer the ETF’s. For tax loss harvesting I find them more flexible. Being able to sell one ETF and buy something similar (just not “substantially identical” 😉 within minutes eliminates the human error of selling one day and not getting around to buying the next…or the next…or the next and creating your own index tracking error. Also makes rebalancing instant.
Excellent point.
Yes, that’s it. A friend was telling me about this 0%. I wasn’t impressed but couldn’t put my finger on why. I think the decades of operational experience, the breadth of offerings, and the investor ownership structure of Vanguard are keys to their success.
I spent some time looking at the “big news” and what it meant last week. I found the answer I was looking for by comparing the after-tax returns of VTSAX versus FSTVX. I displayed Morningstar’s table of historical returns in my Sunday Best yesterday.
https://www.physicianonfire.com/wp-content/uploads/2018/08/FSTVXversusVTSAX.png
The 10-year tax-adjusted returns are 10.22% for VTSAX versus 9.86% for Fidelity’s equivalent FSTVX . That’s a 36 basis point difference, and it’s all I need to know.
I’m sticking with Vanguard.
Cheers!
-PoF
How is that Vanguard “flushes” put some capital gains through their ETF’s to achieve a larger after-tax return? I’m not familiar with that concept.
It comes from the process of ETF creation/breakdown. Basically, large shareholders (they have a special name that escapes me now) can trade the ETF for the actual shares of stock. So the shares they’re given when they do that are the most appreciated ones, lowering the capital gains distributions to the little shareholders like you and me. I’m sure someone can explain it in a more technical fashion, but that’s basically what’s going on. It basically flushes out the capital gains in a significant way, raising the after tax returns in comparison to Fidelity and Schwab who don’t share that Vanguard specific structure.
Very interesting. So these large shareholders get a stepped-up basis? Is this the patented structure that I’ve heard is unique to Vanguard?
https://www.bogleheads.org/wiki/ETFs_vs_mutual_funds#Vanguard_funds
Not so much a step up in basis as a recharacterization (using that term broadly and not in a tax sense) that allows them to keep from distributing capital gains and decreasing the overall return of the mutual fund. One of many things I’m learning from the current ongoing discussion at the Bogleheads forum.
CM
Can’t an investor get all these tax advantages by using ETFs instead of mutual funds in their taxable accounts ( regardless of whether they use Vanguard, Schwabb or Fidelity?)
Technically they’re called “authorized participants” who can exchange ETF shares for the shares of the underlying stocks from teh sponsor. More details here: https://www.investopedia.com/articles/mutualfund/05/062705.asp
But yes, this is the cool thing about Vanguard’s ETFs, or rather their mutual funds of which one share class is an ETF, that you can’t get anywhere else.
First I’d like to point out that index returns are not all that goes on here. Securities lending happens in the background and also gooses returns. It’s possible vanguards size makes it more efficient in using those to goose returns then others.
That being said I don’t believe switching because of this is worth anything. Honestly you could invest in etfs and get better tax treatment then either one while being very near 0 fees. Do it with the brokerage house that owns the etfs and there are no trading fees either.
Ultimately I feel the choice between schwab fidelity and vanguard comes down to whose brokerage house you use. That’s a more complex question.
I found this post to be interesting. I have my money at Vanguard and I love the simplicity of one institution. However in my new job I am opening a roth 401k at Fidelity. I will see how it goes. Maybe I will do a post comparing the sites and user friendliness score.
Hatton1,
This may be a little off this topic but I’m curious why Roth 401K and not a traditional 401K? Usually, the Roth benefit is more for younger folks or in a low tax bracket? Are you trying to avoid the RMD requirements?
I am trying to avoid RMDs and I am working only part time. I figure why get a larger tax deferred account that I need to Roth convert from 65-70. I will rollover the Roth 401k in 5 years. I could only defer it a very few years.
Since I already have an account at Fidelity, I’ll probably start contributing some new investments to the zero expense ratio fund to make a comparison. Would be interesting to see the 1-year results…
Maybe the difference will be 23 basis points!
Yeah, I’m in the same boat. My employer’s 401K is with Fidelity and they allow for mega-backdoor Roth contributions, so I also maintain my Roth IRA there at Fidelity as well. Curious to see if there is any performance difference between FZROX (their zero-fee total market fund) and the FSTVX I already keep in that account. But like WCI says though, probably not a significant difference either way. Definitely not moving my Vanguard brokerage account over there, since Vanguard’s business model makes their low fees seem more sustainable long-term for me.
Seems reasonable.
The race to zero has been won!
Great points (no pun intended) in this post. There is more to consider than a handful of basis points. It will be interesting to monitor these new funds over time, but it’s too early to make a decision just yet – based only on the (ever so slightly) lower cost.
keep your money with vanguard and thank bogle
great company and the vanguard in the industry and a great website
I am glad you set the record straight.
The taxable event of switching from one to the other can not be emphasized enough. I have all my taxable accounts in vanguard and have no desire to switch.
Maybe if I am about to invest there could be a better debate but even then you have shown that there is more than expense ratio to consider. Having 0% ER which is clearly going to be a money loser makes me think what is their end game too and has the bait and switch kind of vibe going for me.
Bogle and vanguard has done so much for investors that I am pretty much a loyal fan for life with them.
Private Client status at Fidelity gives us free TurboTax Fed + State Premier Edition every year. It’s a nice benefit.
I was disappointed to see WCI use the Morningstar tax efficiency metrics, since their metrics are so flawed. There are better metrics than that, see this Bogleheads thread(https://www.bogleheads.org/forum/viewtopic.php?f=10&t=242137). Morningstar’s numbers are not to be trusted and this has been known for some time. Of course, I do still suspect the tax efficiency numbers hold up but maybe not to the same extent.
Are you suggesting none of Morningstar’s numbers are to be trusted, or simply saying they don’t include the foreign tax credit?
Both. This has been easy to see in the recent past where different share classes (with identical ER so the dividend payout rate is identical) of the same Vanguard fund (VTI and VTSAX) have had different Morningstar tax cost ratios, which is obviously impossible. It’s not the only problem they have had but it’s the most clearly recognizable one. That error alone should disqualify their broad use as the authoritative tax efficiency metric.
Actually, it’s not impossible at all! ETF’s are more tax efficient than mutual funds even when they track the exact same index. You can find that right on the Bogleheads wiki and everywhere else. The claim is made that Vanguard runs its funds in such a way that it negates this difference, however, this is clearly not completely true.
Morningstar isn’t the problem. You used the example of VTI and VTSAX. Forget Morningstar; the fund and ETF’s own prospectuses report a 10 BP advantage to VTI at 1 year and a 7 BP advantage over 5 years after taxes. Now I don’t know how each calculate their stats, but just using the fund prospectuses there clearly is a difference in tax efficiency between the two. Morningstar didn’t make it up. The difference is small, but since they’re essentially the same investment might as well go with the lower cost ETF.
> The claim is made that Vanguard runs its funds in such a way that it negates this difference, however, this is clearly not completely true.
“clearly”? You can’t use evidence that I claim is flawed to show this. It’s known as begging the question.
VTI and VTSAX have had identical pre-tax returns and identical payouts with identical percentage of qualified dividends. Neither have distributed capital gains. This means their tax efficiency has been identical. Full stop.
> You used the example of VTI and VTSAX. Forget Morningstar; the fund and ETF’s own prospectuses report a 10 BP advantage to VTI at 1 year and a 7 BP advantage over 5 years after taxes. Now I don’t know how each calculate their stats, but just using the fund prospectuses there clearly is a difference in tax efficiency between the two.
I think you need to re-read the prospectuses. The after-tax returns of VTSAX are never calculated or displayed, but investor share class VTSMX is displayed. VTSMX has different before-tax returns. As a result its after-tax returns will differ (and the extra return of VTSAX will be seen as a negative from a tax efficiency perspective). The sale on gains also muddles things a bit. Your proposed comparison doesn’t show at all what you claim it does.
I think you should consider at least the possibility that some people have thought about and studied this more than you have.
>Morningstar isn’t the problem.
Yes, it is.
> Morningstar didn’t make it up.
Yes, they did.
I figured using a third party would be more reliable than using Vanguard’s and Fidelity’s numbers, but I guess that’s not the case. But that’s really beside the point of the piece- that trivial differences in expense ratio don’t matter as much as some other stuff most people aren’t even paying attention to.
What would you suggest as the “authoritative tax efficiency metric” besides personally mining individual prospects’ for the last 5 years and manually entering it into a spreadsheet.
Also, it seems that the term “tax efficiency” is ambiguous. I understand it to be roughly (total value – taxes)/total value but your spreadsheet looks like its the actual cost of taxes on a 10K investment expressed as a percentage (US taxes – foreign tax paid)/total investment.
There is no authoritative tax efficiency metric other than the one you have recognized. Fortunately, there is one person willing to do this for the most common funds people use.
I hope you’re not confused by the fact that I compute the tax on a $10K investment; obviously just adjust this to whatever your actual holding is. Tax efficiency to me is the amount of tax drag per year as a cost of holding the investment, that is why I express it the way I do. Of course you can do one minus my number to get your number. It’s not really ambiguous, just two different ways of looking at the same number.
But wouldn’t you need to incorporate the yield or return to get an appropriate understanding of the impact on taxes? For example, VTI’s tax efficiency would equal (2.03%-0.13%/2.03%) or 0.935% tax efficiency with a 1-0.936 = 0.064% tax drag. For a negative return you’d have to subtract 1 from the final number which seems mathematically awkward.
I’m really just trying to seek clarification as I’m new to this stuff.
Thanks
Tax efficiency is a measure of how much of your *investment* you lose to taxes, not how much of your yield you lose to taxes. You can have a fund which has a 0% dividend yield but if it makes a capital gains distribution, and you owe taxes, which detracts from the after-tax return of your fund.
I think Livesoft’s criticism from your linked Bogleheads thread is a valid one. Basically, you include stuff like the foreign tax credit but not other stuff like donating shares to charity, step-up in basis at death, tax-loss harvesting etc. The truth is that tax-efficiency is really personal if you’re going to get into the nitty-gritty. That stuff matters a lot more than the FTC.
I agree tax efficiency is personal, but I doubt he would see that caveat as a critique. It’s still helpful to have a “correct” marker that actually captures the year-to-year cost since tax efficiency can matter a lot, all else being equal (and everything you describe is equal across investments targeting the same asset class so it can be ignored in this level of analysis). Besides, it’s useful if for no other reason than to be able to not use Morningstar’s numbers.
P.S. by the way I started all my calculations off of livesoft’s methods for doing this stuff, so some credit goes to him, though he’d probably reject any credit.
Excellent overview of the issues. I certainly agree that no one should change their account locations over such small differences. One significant distinction between the Vanguard and the other two firms is the prevalence of local offices. If your local office is convenient and the personnel are excellent, the service provided can be of great benefit. I do not have recent experience with Fidelity, but I have long-term experience with Schwab. With rare exception, my local office has been very helpful and far preferable to only having access to assistance via phone or the web. This was especially true when managing my fathers final years and the distribution of his estate. Just the time saved avoiding phone trees is worth a few basis points.
Those of us not at Fidelity will probably see a benefit from Fidelity’s move, as the market will likely respond and investment costs will continue to decline. In many respects, we live in a low-cost paradise for individual investors, as I remember the days when virtually all funds had loads (even Vanguard’s first index fund had a load initially) and high expenses. I also remember paying $35-$100+ commission per stock trade. A major player has now created a zero expense mutual fund and I suspect major players will move towards the same for ETFs and trade commissions. We will all benefit.
Some comparisons to buttress WCI’s blog:
I started investing in late 1970s…..Mutual funds ER were 1.2% – 1.5% (some insurance companies higher) and usually with a front end load of up to 8.75%
By 2000, ER were down to .6 %– .8% and most Front End Loads went away
Then Index Funds and ETFs came along
Now ERs are .1% – .2%
I don’t want Vanguard to go below .04%; put the money in customer service. Going to .02% or 0% is insignificant but customer service is not ……..Gordon
Pretty interesting to consider the history of mutual funds isn’t it? And to think there are still people out there with paying loads to buy 1%+ ER mutual funds.
This is an excellent analysis. One other issue which essentially makes Vanguards funds have a negative expense ratio currently is that these funds engage in securities lending to earn revenue. Fidelity keeps this revenue where as Vanguard gives it back to investors. Just another way Vanguard does the right thing. They are essentially paying you to own the funds. It is why when it comes to index fund investing especially, there really is no competitor to Vanguard.
Interesting that Fidelity keeps it. So I guess the lower ERs are due to being subsidized by the other funds/revenue sources from Fidelity.
I think it is pretty interesting to look at the average fund ER between Vanguard and Fidelity.
According to Morningstar, 3.6% of Fidelity assets charge a load and their average domestic stock ER is 0.73% and taxable bond ER is 0.64%. Vanguard has NO load funds, their stock ER average is 0.15% and their taxable bond ER average is 0.12%.
Why someone would go to Fidelity “for lower expense ratios” is beyond me. If you like their service or have your 401(k) there or something, fine, but I think it’s pretty obvious where the lower expense ratios are.
Outstanding and answered all my questions. Per usual!!
Good post and I agree on most points. We currently use Fidelity and they have treated us well. It is nice because the wife’s 401k is through them and we appreciate having as much in one spot as possible. I am interested in this concept of “flushing” the returns mentioned above…I would love to do some more reading on that if anyone has a good link.
I’d suggest Rick Ferri’s book on ETFs if you want to get into the nitty-gritty. If that’s too much, try this post by Mike Piper: https://obliviousinvestor.com/tax-efficiency-of-index-funds-and-etfs/
I switched the the f-zero funds in an account I already had with Fidelity (my HSA), but I figured there’d not be a big enough advantage to chase the lowest ER at this point. I have the accounts I have a choice of with Vanguard (my Roth IRA and my soon-to-be i401k). Chances are with my luck whichever I choose – Vanguard or Fidelity – my return will be lower anyway. As you point out, it will be so marginal as to almost not matter.
A difference of a couple of basis points may not be significant when looking at the other advantages of Vanguard. But between an ER of 0.0% vs 0.14% for TSM in a solo 401k, does that difference now give Fidelity the advantage considering tax efficiency is not relevant in that account.
Jinit,
I agree with the premise of this blog entry that a 4 bp vanguard vs. 0 bp fidelity fund doesn’t really matter, however, I would say why pay anything extra when you don’t have to? 14 bp is not anything to shake a stick at, and if you are able to start out life and all choices are available to build your assets toward to premium services status, then Fidelity is a great choice too! For your tax advantaged account, you are right that there is no concern about the tax considerations mentioned, so you’re good there. For your taxable account, why not use their commission free trading ishares ETFs, which have very very low expense ratios (ITOT, Total US market index ETF 0.03%), and all the tax advantages as you see with any other ETF family. I’m at fidelity for > 20 years now, and my father before me was too, and we are very happy with their private client group services. There are all sorts of perks with Fidelity. I get 300 trades a year just by direct depositing my and my spouse’s paychecks to take advantage of their free trade offers every year, and these are good for 2 years on any trade, whichever ETF you use from whatever fund company, or any stock trade. There is a long list of Fidelity and non-fidelity mutual funds that trade commission free, and any non-Fido ones that don’t make the list, you pay $50 to buy and nothing to sell (which I think is awesome when you are drawing down during retirement). Of course, you have to meet certain deposit minimums to get the free trade offers, and the more you put in, the more you get. It is possible to get a range of 100-500 free trades, depending on how much you put in, or get cash offers, or airline miles, for depositing your money with them. They have commission free trading i-shares ETFs for all the asset classes, including international small cap (SCZ), but of course, if you want international small cap value, then use one of your free trades and buy another company’s product, e.g. DLS) All the ishares ETFs have razor thin bid/ask spreads just like vanguard. Fidelity offers sector ETFs which trade commission free as well, and also with industry-wide low expense ratios, and with growing asset bases. I use their ETFs for my taxable accounts and fidelity index funds for my tax advantaged accounts. I need to learn more about these zero funds-i guess the only disadvantage is that I agree that they have no track record, but fidelity does have enough experience with index funds, and they do fine so I’m not really that worried. Comparing the performance of index funds with each other is a waste of time. They all do about the same, and tracking error is the best way to see how good of a job they are doing. Note also that securities lending with Vanguard funds is a nice bonus, but not without risks. Is zero a marketing ploy? Yes! But that’s what living in a capitalist society is all about. By the way, the other perks I like are the 2% cash back credit card, good on any and all purchases, and Fidelity full view, which is an asset amalgamation tool (a new update is coming which will make it look and function better) so you don’t need to enter all your secure details into another separate program (e.g. mint or personal capital), as well as the core cash position which pays 1.56% (SPAXX-fidelity government money market) and is facile enough that any new deposits directly go into that, and then you can spend or invest directly from that without doing any fancy maneuvering. I think Vanguard has that too, so no big deal. Bottom line is that you can’t go wrong with Vanguard or Fidelity, so if you have your assets parked somewhere, don’t make a bone head move and sell just for zero funds, BUT, you can always put new money to work where ever you want.
NP,
To each his or her own, but it would drive me to distraction to keep up with all the trades you are allowed much less take steps to maximize the perks you describe. At least for me the simplicity of the Vanguard target retirement funds is a virtue. No doubt all those moving parts at Fidelity have the potential to add value, but DCA into a low cost index mutual fund will meet most financial goals.
All the best, Larry
I agree Fidelity is a great choice. But I’m still going to call them out when they make a major marketing push on what is basically an irrelevant change.
I also use the Fidelity 2% back VISA card.
For many people, Fidelity had the advantage before. Or better yet, just go eTrade and use the Vanguard ETFs if you need rollover capability. In my case, it’s nice to have our individual 401(k)s at the same place as my Roth IRAs (Vanguard). But as they get larger, I sure think about closing the plan and rolling it somewhere else, like my old TSP!
I have a Fidelity Roth that I use for my Mega Back Door Roth- mostly because my work retirement account is with them (makes it easy to just do the roll over that way). All the rest of my accounts are with Vanguard. Anyway I currently have FSTVX (er 0.015) and FTIPX (er 0.06). Since there is no tax consequence for switching and I am planning on keeping the Roth at Fidelity for as long as I am able to continue doing the mega back door Roth, what are people’s thoughts about switching to these 0 er funds? Is the existing index fund “better” or do people feel the new fund is superior due to er? Curious what others in similar situations are considering.
I don’t think it matters much.
Anonymous MD,
I would have no qualms using these funds in a retirement account, especially where you are adding new money. I really don’t think there is a superior fund.
FYI: See the below link, and click on “See our Fidelity index investment methodology”
https://www.fidelity.com/mutual-funds/investing-ideas/index-funds
My conclusion is that they have roughly the same number of stocks and are managed by the same people (Geode Capital Management), with the same modelling approach to approximate the performance of their respective indices. I doubt there will be a performance difference, and they should be just as correlated to each other as with all the other existing total market index funds out there.
Hope that helps!
To be fair, I think it’s important to distinguish the “good” index funds from the “bad” index funds out there. While the differences between Vanguard, Fidelity, and Schwab TSMs are trivial, there are crummy TSM funds out there (more likely 500 index funds).
Oh, shoot! Thanks for catching that WCI. I can see how my sentence could be misconstrued. Yes, that is more along the lines of what I meant, and, of course, those are the ones that come to my mind too.
NP
This article presents an important comparison beyond just ER’s. Which gave me an idea… Doing this same Morningstar comparison between for example VOO (S&P ETF ER 0.04) and VFIAX (S&P Admiral Fund ER 0.04) yields a consistent after-tax advantage of between 8 to 17 BP to VOO for the comparable periods. With everything else being equal (except the 10K minimum for VFIAX), why buy the mutual fund version at all in a taxable account?
I don’t know if this is an example of misreporting by morningstar that the boglehead triceratops was pointing out above or not. One big reason for me is share identification of mutual funds which allows you greater flexibility when selling shares for yourself or giving them away to charity. My understanding is that ETFs are sold on a first-in, first out (FIFO) characterization only.
CM
Nope; ETF’s trade like any stock and for each sale you can pick any method you wish. I exclusively use Specific Lot. As mentioned above I love ETF’s for the ability to tax loss harvest or rebalance and reinvest immediately without waiting until the end of the next day. The market has a way of rebounding as fast as it dips. I’ve always concluded funds vs. ETF’s are pretty much equal aside from this difference from my research. However if there truly is a tax advantage to the way the ETF is managed vs. the fund, that’s not insignificant. For a tax deferred account the fund wins consistently by 1 BP; not that that is significant but just saying.
Agreed. You can do specific lot identification with traditional mutual funds and ETFs just fine.
Let me also add that it’s not just Morningstar error. Looking at the fund/ETF’s own prospectuses they report an 8BP ETF advantage at 1 year and 9BP at 5 years after taxes. That makes the total post tax ER of the fund 0.13 compared to the ETF 0.04 over 5yrs.
VOO and VFIAX have the same after-tax return and it would be quite surprising if at any point in the future they did not. FrugalMD is mistaken in this discussion on tax efficiency. One point in favor of the mutual fund is that dividends are reinvested at NAV on the reinvest date vs whatever your broker decides for the ETF (sometimes a market order at the open, sometimes days delayed).
So your contention is that these funds prospectuses are fraudulently misrepresenting their after after tax returns and you are correct instead?! Better call the SEC because Vanguard is going down! 😉
Not unreasonable. Of course, it’s only 9 basis points, so it’s not going to make a huge difference.
I’m struggeling to find a low cost index fund available in Europe. Does anyone have a good suggestion? I’d love to buy something similar to VTSAX, VTI or one of the other funds mentioned in this post.
It’s kind of a scam really. Canada, NZ, and Australia have similar issues. I wish I had a good solution for you. I think the key is to get a brokerage account that allows you to buy low cost ETFs. I’ve heard Interactive Brokers can be used by Europeans, but I don’t have all the details.
Great Post WCI! I too have everything with Vanguard and see little reason to switch as most commented. – First time blogger here and wanted to network with like minded Docs with an interest in personal finance. It’s a fun and rewarding hobby! Hello everyone!