ETF providers in battle over fees

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Bankers rarely leave money on the table, yet Canadian ETF providers appear increasingly determined to forgo some of the fees they had been charging their customers. Tuesday, Vanguard Investments Canada Inc. announced it is cutting management fees on more than half of its Canadian-listed exchange-traded funds (ETFs). That follows similar moves by BMO Asset Management Inc. in April and BlackRock Asset Management Canada Ltd. in March.

From the client's perspective, Vanguard's price reductions are not a hugely aggressive move. The average management fee on the low-cost investing product company's 21 ETFs is now 0.14 per cent versus 0.19 per cent. But in a few select products, the price reductions are significant. The management fee on the Vanguard FTSE Canada All Cap Index ETF has been slashed to 0.05 per cent from 0.12 per cent; that's a 58-per-cent price reduction, one that, in the aggregate, potentially represents a big chunk of a fund manager's revenue.

This particular fund is about as plain vanilla as you can get in the industry. It's designed to mirror the S&P/TSX Composite Index. If five basis points sounds cheap, that's because it is. But Vanguard isn't even the first company to get to that level. Bank of Montreal, with its BMO S&P/TSX Capped Composite Index ETF, and BlackRock with its iShares S&P/TSX Capped Composite Index, are already charging fees of five basis points. The three companies share bragging rights for having the cheapest fund in this category.

It's interesting that Vanguard chose to match, but not beat, its competitors on this product. Is five basis points as low as Vanguard can go? Atul Tiwari, managing director of Vanguard Investments Canada, says there is room to go even lower. "It's possible for expenses to drop further," he says, "but I can't see us, or anybody going to zero, because there are fixed costs in managing an ETF. And at some point, you're going to be not making any profit."

Vanguard, like BlackRock, is a huge player globally. Vanguard Group Inc. has more than $3-trillion (U.S.) under management. That heft, Mr. Tiwari points out, gives the company "scale, structural advantage and the ability to spread costs over a larger asset base" compared to some of its competitors. So when it comes to the Canadian ETF industry, Vanguard may be in a better position to shave off a basis point in fees here and there

For investors who already own a competitor's ETF, a difference of one or two basis points may sound inconsequential. For investors considering new investment in ETFs, however, Mr. Tiwari says being among the cheapest providers in the field absolutely matters. "Why pay more, when you can pay less?"

Vanguard is a relatively new player in the Canadian ETF market, only jumping into the fray in Dec. 2011. It has $3-billion under management in this country. That's a fairly big slice of the overall Canadian ETF market of $73-billion, considering Vanguard has been around for fewer than three years.

A major reason for Vanguard's early success in Canada has undoubtedly been its emphasis on its products' low fees. But if you look at the universe of providers in Canada, building up a business in the space is about more than focusing on fees alone. Firms such as Horizons ETFs, with its derivative-based ETFs, BMO, with its covered call products, and First Asset, with its slate of actively managed ETFs, have all carved out niches for themselves.

There are currently nine companies that offer ETFs on Canadian exchanges. Their owners run the gamut from the huge American firms (BlackRock, Vanguard), to large Canadian banks (BMO and Royal Bank of Canada) to smaller independent Canadian players such as Purpose Investments Inc. and First Asset. And some large Canadian banks, such as Toronto-Dominion Bank and Bank of Nova Scotia, haven't yet entered the field. As the ETF space in Canada becomes fiercely competitive, potential new entrants will either have to be super aggressive on fees, or offer something unique.