The “race to zero” is heating up.
Fees for mutual funds and exchange-traded funds have been dropping regularly for years, but despite many being offered at what would have seemed rock-bottom prices not too long ago, there may be more cuts ahead. That’s good news for investors, though it could also result in further consolidation in the fund industry as providers and sponsors struggle against the lower revenue that comes with lower fees.
“Intensifying secular changes could reshape the industry and compress fees by 10-15% over the next three to five years, offsetting asset-driven growth and limiting earnings power,” Morgan Stanley wrote in a note to clients on Thursday.
The investment bank said asset managers were having a “Darwinian moment” in what amounted to “a sea change from a few years ago.”
According to the Investment Company Institute, expense ratios for U.S. equity ETFs dropped by nearly a third between 2009 and 2016, falling 32% to 23 basis points (or 0.23% of assets) on average, from 34 basis points. That average masks just how cheap the category has gotten, however, as many of the most popular funds have fees below 0.1%. Both Vanguard and BlackRock, for example, offer an S&P 500-tracking fund that charges just 0.04%, or $4 for every $10,000 invested.
For mutual funds, the average fee has dropped to 0.63% from 1.04% at the end of 1996.
The firms offering the most low-cost funds tend to be the largest, as they can benefit from greater economies of scale. According to ETF research firm ETFGI, the top three ETF providers—Vanguard, BlackRock
and State Street
—together service about 70% of ETF assets.
For actively managed mutual funds, there’s a similar shift toward a few big plays. The “top three flowing firms took in 35% of active equity industry flows,” Morgan Stanley wrote, “up from 32% share in 2015 and 18% share for the top three in 2010.”
Market share has similar shifted, with the top 10 flowing firms having 58% of the market in 2016, compared with 42% in 2010.
“Mediocrity will no longer suffice for an industry under transformation,” Morgan Stanley added. “It’s winner take all.”