A Canadian's random thoughts on personal finance

Sep 5, 2008

Avoiding index fund fees

Michael James recently said "Small Amounts add up, but Pennies Don’t", and I think the same is true of index ETFs. It's easy to find funds with remarkably low expense ratios under 0.3% per year. If you manage to save 0.1% per year times 30 years, that adds up to 3% of your final portfolio value at retirement, which I daresay you'd be hard pressed to notice.

Go ahead and pick the cheapest index fund you can find, all else being equal, but I wouldn't go to any lengths to avoid these tiny fees. For example, I wouldn't go buying the underlying stocks in one of these cheap funds unless the savings in management fees makes up for the higher trading commissions and the tracking error you'll get from not owning exactly what's in the index.


Michael James said...

Thanks for the link. I agree that 3% over 30 years is tolerable, but I wouldn't go so far as to say that you wouldn't notice. Overall, though, I agree with your thinking. Some mutual funds charge 3% per year, and it's important to educate people to keep them away from these funds. But, once you get into the lowest cost index funds, it's doubtful that you could reduce costs even further.

Patrick said...

Hi Michael. What I had in mind was that 3% gets lost in the noise. The market can fluctuate more than 3% in a week, so you could easily lose the same amount by choosing the wrong times to sell stocks and buy lower-risk investments (which you have to do some time). Or, you could make it back by working maybe 4 more months before retiring.

I guess I was responding to a criticism I saw of an iShares small-cap fund with a 0.20% MER. Even if that were cut in half, you'd expect only a 3% overall difference over a 30-year timeline.