Commission Free ETFs May Not be Such a Great Deal

Shortly after Schwab started offering transaction fee free trading in it’s proprietary line of Exchange Traded Funds, Fidelity has now rolled out free trading in iShares ETFs to its retail and advisor accounts. For an ETF investor, these appear to be a great news and no doubt in the coming months more brokerages will likely follow suit.

But just because you can trade some ETFs without paying any commissions, are you really getting a sweet deal?

Maybe not. Depends on the ETFs that you are using to construct your portfolio. If you are a Fidelity investor and use iShares ETFs, than yes, the ability to buy and sell without paying a commission is a great deal. But remember, you are still paying a fee in the form of the expense ratio of the ETF. It is quite possible that your commission free ETF carries a higher expense ratio compared to a similar ETF (with commissions) and over your holding period the extra percentage points in the expense ratio add up to more than what you save in commissions. Take for example, the iShares ETF EEM (Emerging Markets Index). The expense ratio on this ETF is 0.72% while the expense ratio of a similar ETF from Vanguard, VWO (Vanguard Emerging Market Stock ETF) only costs 0.27% in expense ratio. For most accounts, buying the Vanguard ETF would be substantially cheaper in the long run even if you have to pay a commission to buy it.

And then there is the question of discipline in investing

Maybe you are immune to the temptation. If you are, congratulations, but I would wager that most investors are not. Just that fact that you can trade some ETFs without incurring a transaction cost, can drive up trading activity of most investors since the short term pain of paying commissions is now absent. This can lead to excessive trading, tax inefficient portfolio and a dilution of asset allocation strategy that can mean lower investment results over the long term.

Do a periodic review of your investment strategy and stick to it

As an investor, you need to stay on the course that you have charted for your portfolio. These short term temptations should not affect your long term portfolio strategy. If you are in a position to take advantage of these commission free ETFs while staying within your long term strategy, do it. I am all for saving money where we can. But, please, do not change your strategy just to take advantage of fee free trading.

Sounds pretty obvious as I write this but you would be surprised at how many investors stray with temptations like this.