The incomprehensible obsession with TER (Total Expense Ratios) - is it justified?

After reading a lot of posts on this forum, I noticed there seems be a lot of mention, talk and even hype about ETFs’ Total Expense Ratios. Vanguard ETFs in particular seem to benefit from this focus, due to their low expensive ratios. Sometimes I even can’t help but think it all reads a bit like stealth marketing for them (which I wouldn’t allege or insinuate that to be the case).

Now I can somehow get the advantages of lower costs vs. higher costs, and also the tax advantages of investing in U.S. securities through U.S.-based funds, etc… I can also imagine possible reasons why different ETFs do fare slightly differently trying to track the same index.

But is is just me, or do actual performance and/or tracking error of funds seem to pale a bit in the discussion (compared to the focus on TER)?

Case in point: Let’s go to justetf and take what should be one of the more popular indices tracked by ETFs, the S&P 500: 17 ETFs listed for Swiss individual investors, with TER ranging from 0.05% to 0.22%. The Vanguard product (IE00B3XXRP09) has the second lowest TER with 0.07%. Yet performance-wise, if we sort the rows by returns over periods…

  • over 6 months, the Vanguard ETF ends up on a (shared) 15th place, as one of the “worst” funds.
  • over 1 year: same thing
  • over 3 year: the Vanguard comes up in the very last position
  • even over 5 years, it fared below average (12th)

Over all periods, it is bested by the UBS accumulating ETF (IE00B4JY5R22), which with 0.22% has more than three times the Vanguard’s given TER.

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This plays on the tax inefficiencies of European ETF on the S&P500. Swapper funds do have a tax advantage there and can thus pass on part of this advantage.

When just comparing non-synthetic funds: The tracking difference over 5 years is ~0.4% between the top fund and Vanguard. UBS is last.

Also to take into account: Vanguard Europe is not organised as a co-op like Vanguard US. This enables more inefficiencies for the investor outside of TER. Like keeping bigger parts of share lending revenues, higher execution costs (trading) etc.

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I like your posting of that question. I see the same “symptoms”. I wonder if there will be some interesting knowledge shared here :slight_smile:

TER is important as it is a simple aspect you can optimize in an investment. A lot of small investors pay more than 1% and frequently up to 2% of TER and here it is a point to optimize.
In your example you try to extract the last basic points and we see that the ultra low cost Vanguard is not the best choice most of the time. However it fails by only 20 to 30 basic points the best result which is very small compared to the 100 to 200 basic points you loose in usual high TER founds. Vanguard is not the worst on the list on all the years and is mostly seen in the middle.
The policy for dividend payment has also an influence here. In the case of yearly payment of the dividend but reinvestment within the found in between, you get a bit a better yield that if you pay the dividend quarterly like Vanguard does. On the other hand the quarterly payment of the dividend gives the possibility to the investor to reinvest it directly, and at the end, to purchase shares on a growing market at better price than with yearly payment.
The optimization of the last 30 basic points is not always trivial and straightforward but the TER remains important for the 200 basic points lost by the majority of investors.

That was part of why I started this thread. I’ve read a lot about tax advantages and TER, and lately began to feel as if there was sort of a consensus on this forum about preferring low-TER funds and US-domiciled funds over Irish ones.
Also swap funds seemed to get a bad reputation here (fairly recently been referred to as swap-based crap.)

I fully agree. Though that doesn’t really seem to be point of contention in this community, does it? :wink:

Instead, isn’t a great share of discussion taking place here (and I just reaffirmed this to me by skimming through recent threads) exactly about that? Optimizing for these elusive few basic points? Like the 15% residual withholding tax on a dividend yield of slightly less than 2% on the S&P 500 index…

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It is swap-crap. They have counter-party risks galore and a large part of their cost is on top of TER. It just works (tracking-difference-wise) in your example, because swappers don’t incur the 15% withholding tax penalty that European (=Irish) ETF do (with US stocks).

The point with cost is that those base-points also compound. If memory serves me, Buffet gave the example of investing for 77 years (as he had) with 2% cost - resulting in the broker/bank getting half of the profits.

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I do understand that the 15% penalty on the dividend of US stock from Irish ETF, that is not recoverable is a loss of efficiency in the investment. I however want to make clear that there is some trade off here.
If your marginal tax rate is 42% because you make good money and live in canton where the taxman is thirsty, then the 15% loss is only a 9% loss on the dividend after tax.
I do not like to be exposed to US tax law through my ETF or investment. The 15% witholding tax is the price to pay to be completely shielded from sudden change in US tax law or inheritance problem.

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So even though “it just works”, it is crap?

I’m not disputing the existence of counterparty risk. But that too should be limited. And if you can get outperformance with limited risk - why not? I’ve seen and read about other optimisation strategies and techniques.