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Frugality and Index Fund Fees

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The topic of index fund fee rates usually enters the discussion of index funds because usually that’s the only difference between the funds (since the contents are dictated by the index the fund is matching), but why should it matter if you pay 1% or 0.8% or 0.5%? On $10,000, the difference between 1% and 0.8% is a mere $20 a year! So what’s the big deal?

Well the big deal is if you had a choice of buying a book for $20 or $19.99, which one would you pick? It’s a mere penny difference, that’s 0.05%, and I’d be willing to bet that you’d pick the $19.99 every single time without fail. Why? It makes no sense to pay $20 when $19.99 can get you the exact same product – think of the index funds in the same way and those fees look expensive, regardless of their actual cost.

{ 10 comments, please add your thoughts now! }

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10 Responses to “Frugality and Index Fund Fees”

  1. Big Mike says:

    Seems to me that there’s no difference between $19.99 and $20.00. There’s REALLY no practical difference. Putting in the miniscule effort to chose one over the other is a waste of time, and time is money.

  2. jim says:

    But if the two are right next to each other, why would you pick the $20 one when you can get the same item for $19.99?

  3. Avery says:

    It’s not just the fund fee you need to look at, it’s also how actively managed the fund is that you need to look at. The more actively managed, the more the fund is buying and selling, and the more it will cost you in capital gains taxes. Index funds avoid most (but not all) of this.

  4. FMF says:

    Everyone knows that $19.99 is waaaaaaaaay cheaper than $20. Just ask Walmart! 😉

    (It’s psychological, of course.)

  5. jim says:

    Avery – On a typical (non-index) fund I would agree, but usually index funds aren’t actively managed because the menu of stocks they own match the indices.

  6. Tony says:

    What about mutual funds? What percent fee is too high? I am in a few mutual funds that are charging ~2%, am I crazy b/c my “broker/finanical advisor” says I am not. (fund performance has been ~17% over last 3yr)

  7. Avery says:

    jim — Yes, that’s my point, and it sounds like we’re in agreement. Just don’t forget that in order for a menu of stocks to match an index, the fund needs to be regularly rebalanced and there is a human deciding which subset of stocks comprise of an index based on an often subjective choice of metrics.

  8. jim says:

    Tony – I don’t really know how 2% stacks up for an actively managed fund, does that include every single fee or just the manager’s fee? 17% return is great but that’s not predictable, the fee is, but sounds like you made a good choice though.

  9. What about things like SPDRs? Don’t you just pay the commission, and no further fees? If you’re planning on holding for a long time, it seems like that might turn out for the best.

  10. Jonathan says:

    Nickel – SPDRs and ETFs each also have an expense ratio built in. For example, SPY (Yahoo Info) has an ER of 0.11%. Wow, that’s low.

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