What Is a Good ETF Expense Ratio?

If you're interested in investing in exchange-traded funds (ETFs), you have probably heard something about expense ratios. If you want to learn more about ETF expense ratios, then you're in the right place.

An ETF's expense ratio indicates how much of your investment in a fund will be deducted annually as fees. A fund's expense ratio equals the fund's operating expenses divided by the average assets of the fund.

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An infographic explaining what a good ETF expense ratio is and what is not considered to be a good ETF expense ratio. — Image source: The Motley Fool

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Over time, an ETF's expense ratio can significantly impact your investment returns. An annual fee of 1% or less may not seem like much, but, as the example illustrates, it becomes increasingly impactful over time. Every dollar that comes out of your account in fees is a dollar whose value is not compounded for all future years. Considering some ETFs have expense ratios close to zero, you have attractive options.

As for the logistics, the fee you annually owe to the ETF's manager, as determined by the prevailing expense ratio and value of your shares, is automatically deducted from your investment account.

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Expense Ratio

A percentage of mutual fund or ETF assets deducted annually to cover management, operational, and administrative costs.

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Prospectus

A document that is prepared by a company and filed with the SEC ahead of its initial public offering (IPO).

Reading a fund's prospectus can also tell you whether its advertised expense ratio is artificially low. Many funds offer fee rebates during their first few years to attract investors, but those rebates expire, and long-term investors are faced with permanently higher fees.

Also check that the range of expense ratios associated with the type of ETF that interests you is competitive. For dividend-focused ETFs, the lowest available expense ratio is 0.16%, while other types of ETFs have expense ratios that are even lower. If a low ETF expense ratio is important to you, you can prioritize investment options such as index funds.

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About the Author

Mike Price is a 23 year-old Masters of Finance graduate who first started learning about investing on the Motley Fool when he was 13. He is currently seeking a job.

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Mike Price has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.