Mind those actively managed Exchange Traded Funds fees
Article
Asmaa Saleem Malik
Update :
21
March
2025
Update :
March 21, 2025
When it comes to investing, most people focus on returns, i.e. the performance of their investments. But what is often overlooked is the impact of fees.
One of the most significant costs investors face is the management expense ratio (MER), the annual fee charged by an exchange-traded fund (ETF) or mutual fund. While a 0.40% difference between an active fund (MER of 0.50%) and a passive fund (MER of 0.10%) may seem small, over time it can cost an investor hundreds of thousands of dollars in lost returns.
Let's break down why MER is important and how it affects your wealth.
What is an MER?
The MER is the annual cost of managing an ETF, expressed as a percentage of assets. It covers administrative expenses, management fees and other operating costs.
MER is automatically deducted from the fund’s returns, meaning the higher the MER, the more you pay- and the less of your investment growth you get to keep.
Active vs. Passive: The Cost of Higher Fees
One of the biggest differences between active and passive ETFs is cost.
- Active ETFs have higher MERs, as they require professional fund managers who actively select stocks in an attempt to beat the market.
- Passive ETFs simply track the index (such as the S&P 500) and charge much lower fees, as they do not require active management.
Let's compare two ETFs:
- Active ETF with 0.50% MER
- Passive ETF with an MER of 0.10%.
Annual fees for different investment levels :
With a $500,000 portfolio for example, an investor in the passive ETF saves $2,000 per year compared with an actively managed ETF – and that money stays invested, compounding over time.
Does active management justify higher fees?
Many investors assume that paying higher fees for an actively managed ETF will lead to better returns, but is this really the case?
To justify its higher fees, an active ETF must outperform a passive ETF before fees by at least the amount of its additional cost (0.40%) each year. That's a tall order.
Historically, most active funds fail to systematically beat their passive benchmarks after fees. Studies show that while some active managers outperform over short periods, very few do so consistently over decades 1.
If an active ETF fails to outperform the passive ETF, its higher MER simply erodes investor returns.
The long-term impact of Fees
To make this even more relevant, let's assume an investor :
- With an initial RRSP balance of $100,000.
- Contributes $25,000 a year.
- Achieve a 6% return before expenses.
How does MER affect long-term wealth?
Portfolio growth over time :
Every dollar saved in fees stays invested and earns returns, snowballing over time. The fee savings generate their own returns, creating a compounding effect.
After only 10 years, the passive ETF has $12,681 more. After 20 years, the investor with the passive ETF has $61,047 more. After 30 years, the investor with the passive ETF has $191,042 more, simply by avoiding higher fees.
If the active ETF fails to outperform, the investor not only pays higher fees, but also receives lower returns. The investor is worse off than if he or she had simply chosen the cheaper passive ETF.
Lower fees = more money in your pocket
Many investors overlook MERs, but as the data show, a small difference in fees can have a huge impact on your long-term wealth.
Before investing in ETFs, ask yourself the following questions: are the higher fees worth it? Will an active manager consistently beat the market after fees? Or will a less expensive passive ETF make me more money in the long run?
At the end of the day, investing isn't just about what you earn, it's also about what you keep. And to keep more of your money, start by paying attention to management expense ratios.
Note