While ETF’s may appear cheaper than traditional funds in terms of management fee, many carry substantial additional hidden costs investors should be aware of.
Frequently, these are related to the funds’ tracking strategies or the rather illiquid markets some operate in.
The latest culprits du jour are bond ETFs:
WSJ: Keeping ETF returns in line with the indexes has proven to be tough in the murky bond market. For most bonds, there is no centralized exchange matching bond buyers and sellers, and different market players can assign very different prices to the same bonds. Many bonds don’t trade for days at a time, and when they do, they can be costly to buy and sell.
Strong investor demand for certain bond ETFs has even pushed prices above the funds’ net asset values. While these premiums should theoretically be arbitraged away by savvy investors, many aren’t.
WSJ: State Street Corp.’s SPDR Barclays Capital High Yield Bond ETF fell nearly 1% in the 12 months ending Aug. 31, even while its benchmark gained 6%. Part of the problem: The index contained some lower-quality bonds that the ETF couldn’t get, and when those bonds rallied, the fund got left behind, says Jim Ross, senior managing director at State Street.
Thus add bond funds to the list of ETFs turning out to be far more expensive than they appear on paper.
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