Morningstar’s annual study of U.S. open-end mutual funds and exchange-traded funds found that 2016-2017 was the largest year-over-year decline in fees recorded since the firm began tracking the trend in asset-weighted average fees in 2000.
According to the report, the asset-weighted average net expense ratio of approximately 25,000 U.S. open-end mutual funds and ETFs was 0.52% in 2017, down from 0.56% in 2016 and 0.63% three years ago. As a result, the firm estimates that investors saved more than $4 billion in fund fees in 2017 by continuing to gravitate toward lower-cost funds.
U.S. equity, taxable-bond and international equity exhibited the largest annual decline in asset-weighted average expense ratios. U.S. equity funds (which account for 42% of invested assets in mutual funds and ETFs) saw asset-weighted average fees decline 9% to 0.45% in 2017. Taxable-bond funds (21%) saw asset-weighted average fees decline 7% to 0.44% and international equity funds declined 8% to 0.64%.
Declines in the asset-weighted average fees were more pronounced among passively managed funds due to strong flows into the lowest-cost funds, as well as fee cuts by some asset managers for widely held broad index funds, the report notes. It shows that in the aggregate, the asset-weighted average expense ratio for passive funds fell to 0.15% in 2017 from 0.16% in 2016 — a 7% decline. International equity funds realized the largest declines among passive funds, whose asset-weighted average fees dropped 9% to reach 0.23%.
The asset-weighted average expense ratio for active funds was 0.72% in 2017 from 0.75% in 2016. According to the report, this 4% decline was the largest annual percentage decrease in more than a decade and was driven “primarily by large net flows from expensive funds to cheaper funds and secondarily by fee reductions.”
In 2017, the cheapest 20% of funds, ranked by fees by category group, saw net inflows of $949 billion, with passive funds absorbing 70% of those inflows and active funds accounting for the remaining 30%. The other 80% of funds saw net outflows of $251 billion in 2017, significantly less than the $414 billion in net outflows in 2016, according to the findings. Patricia Oey, senior manager research analyst for Morningstar, sums it up: “The message investors are sending is crystal clear — cost counts.”
Meanwhile, the equal-weighted average expense ratio of passive funds was 0.30% in 2017, down from 0.31% in 2016, and 0.72% for active funds in 2017, versus 0.75% in 2016. These declines are largely explained by fee cuts that fund companies have made, Morningstar notes.
Vanguard continues to claim the lowest asset-weighted average expense ratio at 0.10%, followed by State Street Global Advisors at 0.16% and iShares at 0.25%. The report notes that over the past three years, Vanguard’s asset-weighted average fee declined a cumulative 25%, the biggest drop among the 10 largest fund families as measured by total AUM, followed by iShares (19%) and Fidelity (14%).
ICI Sees 20-Year Decline in Mutual Fund Expense Ratios
Meanwhile, the Investment Company Institute similarly finds that the average expense ratios of equity, hybrid and bond mutual funds — including both actively managed and index mutual funds in these asset classes — have trended downward for more than two decades.
ICI’s report, “Trends in the Expenses and Fees of Funds, 2017,” shows that between 1996 and 2017:
- equity mutual fund expense ratios fell from 1.04% to 0.59%;
- hybrid mutual fund expense ratios fell from 0.95% to 0.70%; and
- bond mutual fund expense ratios fell from 0.84% to 0.48%.
“Industry competition continues to push down the expense ratios of mutual funds and exchange-traded funds, as the fund industry meets cost-conscious investors’ demand for lower cost funds,” notes Shelly Antoniewicz, ICI’s senior director of industry and financial analysis. “This demand is driven by a major shift in the industry’s business model, as increasingly investors pay directly for investment advice and assistance from investment professionals, rather than through fund fees.”
Similar to the Morningstar data, the average expense ratio of actively managed equity mutual funds fell from 1.08% in 1996 to 0.78% in 2017, and index equity mutual fund expense ratios fell from 0.27% to 0.09% over the same period. The report further notes that from 1996 to 2017, the average expense ratios of index bond mutual funds fell from 0.20% to 0.07%, while those of actively managed bond mutual funds fell from 0.84% to 0.55%.
ICI also reports that the 5% of actively managed domestic equity funds with the lowest expense ratios received a total of $3 billion in inflows. For index domestic equity funds, the report finds that more than 90% of net inflows were concentrated in funds with expense ratios below the 25th percentile. “Investor interest in lower-cost equity mutual funds, both actively managed and indexed, has fueled this trend, as has asset growth and resulting economies of scale,” the authors note.
No-load mutual fund share classes also continue to experience positive net new cash flow, according to the report. In 2017, no-load mutual fund share classes received net inflows of $447 billion, while load mutual fund share classes experienced net outflows of $296 billion.
Meanwhile, expense ratios of target date mutual funds averaged 0.44% in 2017, falling 23 basis points since 2008. In addition, with 95% of target date mutual funds being funds of funds, the asset-weighted average expense ratio for these funds of funds was 0.58% in 2017, down from 0.65% in 2016. By year-end 2017, there were 1,400 funds of funds with $2,216 billion in total net assets.
Economies of scale and competition are also putting downward pressure on expense ratios of ETFs. In 2017, the expense ratios of index equity ETFs fell to 0.21%, down from 0.34% in 2009. The expense ratios of index bond ETFs was 0.18% in 2017, down from a recent peak of 0.26% in 2013.
