The mutual fund company best known for low costs has reduced fees for some of its largest and best known funds.
Yes, we’re talking about Vanguard again. The company founded by index-fund pioneer John “Jack” C. Bogle recently announced that it has reduced expense ratios “for 82 mutual fund and ETF shares, including the world’s two largest stock funds and largest bond fund.”
Understanding expense ratios
As we explain in “Money Lingo You Need to Know for Financial Survival,” an expense ratio is the cost of owning a mutual fund — the operating expenses — expressed as a percentage. It’s critical to invest in funds with low expense ratios because, while these percentages might seem small, they can add up — costing many people a bigger chunk of their nest eggs than they realized.
Consider the following example we reported in “Of All the Fees You Pay, This One Is the Worst.”
Assume you have a current retirement fund account balance of $25,000. If returns over the next 35 years average 7 percent — even if you don’t contribute another penny to your account — you’d have $227,000 after 35 years if your account fees were 0.5 percent.
However, you’d only have $163,000 if your fees were 1.5 percent. That amounts to $64,000 less to live on in retirement.
Now let’s take a look at the two largest stock funds for which Vanguard has reduced the expense ratios, the Vanguard Total Stock Market Index Fund (which has $550 billion in assets) and the Vanguard 500 Index fund ($310 billion). They have expense ratios of:
- 0.04 percent — down one basis point — for admiral shares (ticker symbols VTSAX and VFIAX, respectively)
- 0.04 percent — down one basis point — for ETF shares (VTI and VOO, respectively)
- 0.15 percent and 0.14 percent — down one and two basis points — for investor shares (VTSMX and VFINX, respectively)
Besides the expense ratios, the only difference between Vanguard’s admiral and investor share classes is the minimum required investment amount. With these two funds, for example, you must invest at least $3,000 to buy investor shares and at least $10,000 to buy admiral shares.
ETFs, short for “exchange-traded funds,” are mutual fund shares that are traded on a stock exchange like individual stock shares.
Index funds key to low fees
As we recently detailed in “The Key Lesson Vanguard Can Teach You About Getting Rich,” Vanguard has staked its reputation on keeping expense ratios as low as possible and is now reaping the benefit — growing faster than all other mutual fund companies combined.
The takeaway here isn’t simply to invest with Vanguard, though. Vanguard is not the only mutual fund company slashing index fund and ETF fees, and Money Talks News founder Stacy Johnson doesn’t champion Vanguard so much as he champions index investing.
It just so happens that Vanguard has specialized in index funds since its founding in 1975, and that focus generally enables the company to beat or at least meet its competitors on expense ratios.
An index fund is a type of mutual fund — a basket of investments like stocks or bonds — that aims to mimic the performance of an index. The Vanguard 500 Index Fund, for example, mimics the performance of Standard & Poor’s 500 stock index.
Because index funds try to mimic rather than beat an index’s performance, they are generally managed by computers rather than humans. As a result, index funds — also known as passively managed funds, generally have lower expense ratios than actively managed funds.
To learn more about how your portfolio could benefit from index funds, check out:
- “9 Tips Beginning Investors Must Know”
- “5 Simple Ways to Invest Your Retirement Savings”
- “Ask Stacy: How Do I Invest in a Mutual Fund?”
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