Getting a Fair Share from ETFs

Read the fine print. ETFs are not created equal. Fund management companies neither. Some are friendlier to investors than others.

(…)Take the different performances of two ETFs invested in similar financial-sector stocks. The iShares Dow Jones U.S. Financial ETF saw its net-asset value fall 21.06% in the year through September 2009, underperforming the index it tracks by 0.01 percentage point after fees. Over the same period, the Financial Select Sector SPDR Fund lost 23.21%, beating its particular benchmark by 0.26 percentage point.


How? Part of the reason is that the iShares fund charges 0.48% in annual fees, while the SPDR fund charges 0.21%. Even so, for the latter to actually outperform its benchmark, it needed a boost.

The extra source likely was loaning stock to short sellers, who in turn give the lenders cash collateral that generates interest income. (…)

In total, the Financial Select Sector SPDR collected $21 million in stock-lending fees in the year through September. Some $3.1 million of that went to State Street, its partner. But $17.8 million was paid to investors, more than offsetting the ETF’s $13.8 million in expenses. Investors were effectively paid a fee to hold the ETF.

iShares isn’t so generous. In the year through September, the manager kept 50% of stock-lending fees, leaving just half of the total for investors. At the other end of the spectrum, Vanguard Group gives 99.5% of any stock-lending fees earned back to investors. Vanguard Financials ETF has an annual expense ratio of 0.25% and beat its benchmark by 0.29 percentage point in the year through September.(…)

The numbers might sound small. But compounded over many years they can make a real difference to performance. Investors should scan the small print for funds with the lowest fees and a generous share of stock-lending revenue.

Full WSJ article


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