What is an expense ratio?
In one line: An expense ratio is the yearly fee a fund takes to run itself, shown as a percent of the money you have in the fund.
A simple example
Every fund costs money to run. The expense ratio is that cost, taken each year as a slice of your balance.
Say you hold $10,000 in a fund.
| Expense ratio | Yearly cost on $10,000 |
|---|---|
| 0.03% | $3 |
| 0.20% | $20 |
| 1.00% | $100 |
You never get a bill. The fee comes out of the fund's value a little at a time, so you only see it as a slightly lower return.
Why it matters
Fees repeat every year, and they grow as your balance grows. Over decades the gap between a low fee and a high one can be large.
Here's an illustration. Two funds both grow 6% a year before fees, on $10,000, for 30 years. One charges 0.05%, one 1.00%. The cheap fund ends near $56,600. The pricey one ends near $43,200. A math example, not a promise. Real returns go up and down, and can be negative.
The compound interest calculator lets you try your own numbers.
Plain Index funds and many ETFs tend to have low expense ratios. Actively managed funds often charge more, to pay the people picking stocks.
A common mistake
Thinking a 1% fee is "only 1%." It's 1% of your whole balance, every year, not 1% of your gains. In a year the fund gains 5%, a 1% fee takes a fifth of that gain.
The expense ratio isn't the only cost. Some funds also have sales charges ("loads") or trading costs. Check the fund's fact sheet or prospectus.
Questions
What is a good expense ratio?
Lower is better if two funds hold similar things. Many broad index funds charge well under 0.20% a year. Compare funds of the same type.
How is the expense ratio taken?
It's taken out of the fund's assets bit by bit, so it shows up as a slightly lower share price, not a separate charge.
Do ETFs have expense ratios?
Yes. ETFs and mutual funds both have them. You'll find it on the fund's page or fact sheet.
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