Fidelity’s launch of a zero fee US equities tracker has sparked an inevitable bout of anxiety and panic. The anxiety comes from the those who think ETFs are the next weapons of mass financial destruction and that a free ETF will just encourage the gaderine rush into passive. The panic – evident in falling share prices for asset managers – is that this new financial model will destroy asset manager margins and spark a race to the bottom.
My own take is that both the anxiety and the panic is overdone. Some observations.
The first, most obvious, observation is that this isn’t the first zero fee index fund (or ETF for that matter). Deutsche DBX launched a zero fee European DJ Eurostoxx 50 tracker many years ago. It collected modest amounts of money but I don’t remember large numbers of investors saying “Gosh must sell those other trackers and buy this cheap as chips ETF”. Many investors sensibly started asking how could the manager afford such a generous offer, and the debate inevitably turned into one about the perils of stock lending i.e one of the only ways one can make this kind of product pay is through collecting fees from lending out the shares in the basket.
The next obvious observation is that there are already a multitude of US equity trackers with very low fees not least Charles Schwab’s own products which change single-digit basis points. My sense is that very few investors already invested in these other low-cost tracker funds will suddenly switch for the sake of a few basis points. I can see the Fidelity ETFs as a clever ruse to attract in new cashflows but then the decision becomes whether to use the Fidelity platform versus say the Vanguard platform or the Schwab platform. At that point, the debate then switches to one of platform UX, fees for the provision of said platform and the flexibility of products within the platform.
Another consideration is that this is an index tracking fund and the underlying index matters. One might notice the singular absence of a well-known index brand on the biscuit tin. That’s because this is a form of self-indexing. You can see the index methodology construction document HERE. I’m sure the index is robust and returns will probably end up looking a lot like the index its designed to copy (from S&P) but it isn’t the same index….which means a) returns could differ and b) if all hell breaks out the only firm you have recourse to is Fidelity – you can’t complain to the index developer and find out why they mucked up. As I mentioned in my last FTfm column, there’s a damned good reason why we need big brand index firms, and that’s because we need someone to blame if an index goes wrong.
Stepping back from this slightly arcane debate I’d also suggest that this is a narrow marketing win with little wider importance. In my view investor’s increasingly crave solutions. That means putting together ETFs (and other funds) into one solution. They’re fairly agnostic about the ETF brands and their costs, within certain boundaries. A plain US equities tracker is of course a major component of said portfolio but its far from being the only fund. Other funds will track alternative markets, or smart beta strategies or just new geographies – and these will all charge a great deal more than this fund. The major target of this clever initiative seems to me to be just two businesses – Charles Schwab in the platform wars and Vanguard in the cheap as chips marketing battle. Pretty much all the other firm’s bar I suppose State Street with their SPY product are rather beside the point. Shares in everyone from Invesco through to Wisdom Tree took a tumble but I’m puzzled – I very much doubt they’ll be majorly affected by this initiative and no one can be remotely surprised that there’s a price war generally dragging down passive fund fees. That latter battle has bene going on for years now – so why would investors suddenly panic about it now?
I’d also argue that we’ll see new fronts opened up in classic price differentiation. What I mean by this is that we’ll see competitors choose not to fight on price alone. They’ll argue that they can charge more because their products are subtly but importantly different. Smart beta might suggest using factors to achieve a higher return? We could also see marketing battles over corporate governance – my version of the cheap US ETF has better SRI credentials for just a few extra basis points. Another front could come from guarantees not to stock lend and do the right thing by shareholders. If I was a stockbroker platform, I’d also be intensifying my push into robo products and building better customer UX experiences.