As of today, individual investors can obtain passive exposure to virtually the entire U.S. stock market for a management fee of seven basis points, three basis points less than before. The fee reductions took effect for iShares Core S&P U.S. Total Market Index (XUU) and iShares Core S&P U.S. Total Market Index (CAD-Hedged) (XUH).
Today's price cuts widen the fee gap between the iShares ETFs and the competing Vanguard U.S. Total Market Index (VUN), which charges 15 basis points. More importantly, they illustrate the wide gap in fees between passively managed ETFs and traditional mutual funds that charge substantially more to pay for active management and for embedded advisor compensation.
In terms of total market capitalization, the iShares and Vanguard total-market ETFs provide exposure to everything from mega-cap stocks to microcaps. By comparison, the most widely accepted market benchmark for broadly diversified U.S. Equity funds -- the large-cap S&P 500 Index -- covers more than 80% of the market and excludes smaller-cap stocks.
With their new pricing, the iShares total-market ETFs are right at the low end for U.S. equity ETFs as a whole. Management fees for ETFs that track the S&P 500 index are currently in the range of seven to 10 basis points among the low-cost providers. For mutual funds in the U.S. Equity category, the median management fee (not including fund expenses) is 1.85%, a steep hurdle to clear in attempting to provide competitive performance.
The strategies and benchmarks of the iShares and Vanguard total-market ETFs aren't identical, but they're close enough that there's very little to differentiate them in terms of their market exposure.
Vanguard U.S. Total Market Index's benchmark is the CRSP U.S. Total Market Index, maintained by the Chicago-based Center for Research in Security Prices, which has more than 3,700 names. The benchmark for iShares Core S&P U.S. Total Market Index and its currency-hedged version is the S&P Total Market Index, which has even more names, at roughly 3,950.
Because of their corporate connections, it's feasible for both iShares sponsor BlackRock Asset Management Canada Ltd. and Vanguard Investments Canada Inc. to offer these mandates at very low costs.
As the Canadian subsidiaries of global money-management giants, they enjoy economies of scale because they don't need to do all the work of creating the ETF portfolios locally. Their U.S. total-market ETFs -- and many others in their TSX-listed line-ups -- are essentially shareholders of huge U.S.-domiciled funds managed by their corporate siblings.
The two iShares U.S. total-market ETFs in Canada obtain their exposure by holding U.S.-listed ETFs that track large-cap, mid-cap and small-cap indexes respectively: iShares Core S&P 500 (IVV), iShares Core S&P Mid-Cap (IJH) and iShares Core S&P Small-Cap (IJR). Another holding is iShares Core S&P Total U.S. Stock Market (ITOT), which is the U.S. listed equivalent of the Canadian ETF.
The TSX-listed Vanguard U.S. Total Market Index does not directly hold the index stocks either. Instead, its primary holding is the U.S.-listed Vanguard Total Stock Market (VTI). This ETF employs a sampling procedure designed to replicate closely the performance of the index and its key characteristics, including industry weightings and market capitalization, as well as key financial metrics such as price-earnings ratio and dividend yield.
Sampling also forms part of the indexing strategy of the small-cap ETF that is among the holdings of the TSX-listed iShares total-market ETFs. So while both iShares and Vanguard offer the broadest U.S. equity exposure to Canadian investors, neither of them attempt the unwieldy if not impossible task of trying to hold every constituent small-cap stock in their respective benchmarks.
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