Why ETFs have lower expense ratios as compared to MF’s?
- Management Fees – Mutual funds have higher management fees as they employ more staff to actively manage the fund as compared to passively managed ETFs.
- Rebalancing Fees – Actively managed mutual funds constantly need to churn their portfolios to maximize returns for their investors. This entails higher trading and administrative expenses that is absent in ETFs.
- Cost of Holding Cash – Mutual funds need to maintain a cash reserve to meet day-to-day redemption requests by shareholders. This aspect is also called ‘cash drag’ and is not an issue with ETFs.
- 12B-1 fees – Mutual funds charge ‘12b-1’ fees that are typically not charged by ETFs. 12b-1 fees represents expenses used for advertising and promotion of the fund. 12b-1 fees are generally limited to a maximum of 1.00% per year (.75% distribution and .25% shareholder servicing) under FINRA Rules.