PowerShares 'Fundamental' ETFs Make a Lot More Sense at Just 0.39%

By Matthew Hougan

News that PowerShares (IVZ) is lowering fees on the FTSE RAFI exchange-traded funds says good things about the ETF market.

In case you missed it, PowerShares cut fees on 11 "fundamentally weighted ETFs," and cut them in a major way: from 0.60% to 0.39%.  That makes these funds more competitive with mainline index funds and ETFs, and is good news for investors for a number of reasons.

Most importantly, it means that investors are demanding lower fees.  Investors in the past have seemed slightly fee-insensitive in the ETF space, and ETF providers have taken advantage of this by slowly inflating the average fee charged for new ETFs. In the past, almost all ETFs charged less than 0.50%. Now, we don't blink an eye when a new fund launches with a 0.75% or 0.85% expense ratio. Part of that is explained by the move into more niche areas of the market, but part is caused by the fact that investors were willing to pay these fees in a bull market.

Not anymore:  I'm guessing that a lot of investors expressed interests in these new funds, but told PowerShares that the expense ratio was too high.

Which it was.  I'm not a fundamental indexing convert, but these funds make a lot more sense at 0.39% than they did at 0.60%.  The real market for these funds has always been as competitors to "core index" ETFs like the S&P 500 SPDRS (SPY) and the iShares Russell 2000 ETF (IWM), which charge 0.10% and 0.24%, respectively. I think a lot of investors blanched at the idea of paying an extra 0.50% per year for core U.S. large cap exposure, even if they liked the FTSE RAFI methodology. With the fee gap narrowing, the FTSE RAFI funds start to look better.

The new expense ratios also (and perhaps more importantly) put the FTSE RAFI funds within striking distance of their core competition, WisdomTree (WSDT.PK). WisdomTree has (to its great credit) emphasized low fees from day one, launching its core U.S. size funds with expense ratios of 0.28%-0.38%, and its international sector funds with expense ratios of 0.58%.

Comments

[Alan Young:]

Wow, fees are down by 0.21%, and NAVs are down by 20-40%. A double bargain!

2008 Oct 28 08:56 AM