ETF expense ratios on their way down
3 min read 10 Aug 2015, 12:10 AM ISTAsset management firms have dropped fees for Sensex and Nifty ETFs to a record low of as little as 0.03%
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Investors planning to park their money in exchange-traded funds (ETFs) now have one more reason to do so. Asset management companies, aiming to attract large funds from institutions such as the state-run retirement funds manager, have dropped their fees to a record low.
SBI Mutual Fund was selected by Employees Provident Fund Organisation (EPFO), which manages a ₹ 6.5 trillion corpus of retirement funds, to invest ₹ 5,000 crore in Nifty and Sensex ETFs for the first time in its history.
To get the business, SBI MF slashed its fees or expense ratio for the two ETFs to just 0.07% from 0.36%. Other investors in these schemes will also benefit from the lower fees, as asset management companies can’t offer differential pricing.
ICICI Prudential Asset Management Co. and Reliance Asset Management Co. have also slashed their expense ratios on ETFs (Sensex and Nifty) to 0.03%, a level that some industry experts say are well below the actual cost of managing the funds.
Before the recent cut in fees, the average expense ratio for equity ETFs was around 0.6% with the lowest fee at 0.07% and the highest at 1.36%, according to mutual fund data aggregator Valueresearchonline. Lower fees may make ETFs more attractive for many investors than actively managed funds, where fees are between 2.5% and 2.75%.
“We are aware of the lower expense ratios for some other ETFs. At the moment, we aren’t changing anything as we believe that there is value in our ETF offering, but we will watch the situation to see if there is a need to change," said Vikaas Sachdeva, chief executive of Edelweiss Asset Management Co.
The cost for managing an ETF is around 10-11 basis points, meaning asset managers will make a loss by offering fees as low as 3-7 basis points. One basis point is one-hundredth of a percentage point.
Low fees are already hurting pension fund managers of the National Pension System (NPS), another long-term investment product. For private-sector asset managers, NPS allows a maximum exposure to equity of 50% and only through index funds that replicate either BSE’s Sensex or the National Stock Exchange’s Nifty 50 index.
Currently, the pension fund managers are allowed a fund management charge of 0.01% per annum. The pension fund managers say that the fees are too low.
The costs incurred by fund managers of the NPS scheme are higher than those managing money for EPFO, said Sundeep Sikka, chief executive officer of Reliance Capital Asset Management Co.
“Fund management in NPS is done through a separate company which needs all the infrastructure support and so there are costs involved whereas EPFO has picked up an ETF scheme of a mutual fund company; so, there are no extra costs involved," said Sikka.
“They are charging seven times more than what we are allowed to charge. A 0.07% may appear low, but it’s actually high in comparison to the NPS," said Sumit Shukla, chief executive officer, HDFC Pension Management Co. The pension fund regulator is reviewing the fund management fee.
ETFs haven’t gained popularity with individual investors in India because of higher returns from actively managed equity funds. ETFs currently are only 1.2% (excluding EPFO funds) of the total equity assets managed by domestic mutual funds. In the long run, the average outperformance of active funds versus ETFs shrinks substantially, data show.
For example, while in the last one year, the average returns from large-cap funds beat Sensex and Nifty ETF returns by around 6.9 percentage points, 10-year returns for the two categories show that actively managed large-cap funds delivered 15% average annual returns compared to 13.8% by ETFs.
“The case for investing in actively managed funds is still very strong; while averages might get diluted if you consider the top 20-30 active funds by assets under management, these have far outperformed ETFs," said Nishant Agarwal, head of investment advisory and family office advisory, ASK Wealth Advisors Pvt. Ltd.
Also, although all ETFs can be traded on exchanges, the volumes are extremely low. “While the lower expense ratios are good for investors, for retail investors, it isn’t easy to access ETFs and exit may become difficult if trading volumes are low," said Manoj Nagpal, chief executive of Outlook Asia Capital.
Low liquidity could mean that the price you get isn’t in line with the value of the underlying portfolio. ETFs are often quoted on exchanges at prices which are 15-20% higher or lower than their net asset value.
