Low-Minimum Index Funds and Commission-Free ETFs for Small Investors

The deal for small investors is getting better. If someone wants to invest in index funds and ETFs with very low cost, Vanguard is no longer the only choice. Competition is really good for customers.

Schwab has 5 index funds that require only $100 minimum initial investment. The lineup is not as extensive as Vanguard’s, but it’s adequate for a small investor. Although Schwab doesn’t have a bond index fund, customers can buy Treasury bonds at auction or buy new-issue CDs, all for free.

Schwab customers can also buy 8 Schwab ETFs without commission. Because these ETFs are new, my first choice would be the index funds unless the asset classes can’t be covered by the index funds. Here’s an example of a simple portfolio using Schwab index funds and ETFs:

Fund Expense Ratio
42% Schwab Total Stock Market Index Fund (SWTSX) 0.09%
14% Schwab International Index Fund (SWISX) 0.19%
4% Schwab Emerging Markets Equity ETF (SCHE) 0.35%
40% Treasury notes bought at auction and/or new-issue CDs 0.00%
100% Total 0.08%

It’s amazing to me one can invest ten grand for the cost of a few cups of coffee a year.

Fidelity has offered 8 Spartan index funds at low expenses for some time now. These index funds typically have a high minimum initial investment requirement, which makes them not feasible for small investors. In response to Schwab’s commission-free ETFs, Fidelity struck a deal with iShares to offer 25 iShares ETFs free of commission.

These iShares ETFs are among the most popular ETFs in the market. Although Vanguard ETFs have slightly lower expenses, for small investors, not having to pay a commission on small purchases is much more important than the expense ratios. Like Schwab, Fidelity also offers Treasury bonds at auction and new-issue CDs without commission. Here’s an example of a simple portfolio using commission-free iShares ETFs at Fidelity:

Fund Expense Ratio
42% iShares Russell 3000 ETF (IWV) 0.21%
14% iShares MSCI EAFE ETF (EFA) 0.35%
4% iShares MSCI Emerging Markets ETF (EEM) 0.72%
40% Treasury notes bought at auction and/or new-issue CDs 0.00%
100% Total 0.17%

It’s more expensive than the similar portfolio at Schwab but the cost is still very low.

Are these low minimum index funds and commission-free ETFs loss leaders? Maybe, but they don’t have to be short-lived. There’s enough cross-subsidy at Fidelity and Schwab to make them last.

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Comments

  1. KD says

    TFB, could you please also included a portfolio of Vanguard ETFs built commission-free at WellsTrade? I know the minimum is 25,000 for that. But it will help compare the long term costs.

  2. Harry Sit says

    KD – Buying Treasury notes at WellsTrade costs $45 for each trade. You will have to buy bond funds or ETFs at WellsTrade. Larger accounts have more options. This post is primarily focused on small portfolios. The amazing part is the cost can be so low even for small portfolios.

    The comparable portfolio at WellsTrade (min. $25k) would be:

    42% VTI @ 0.09%
    14% VEA @ 0.16%
    4% VWO @ 0.27%
    40% BND @ 0.14%
    100% Total @ 0.13%

  3. RetirementInvestingToday says

    It continually amazes me how low the fees for ETF’s are in the US. Here in rip off Britain I can only wish for low fees like you describe.

    For example
    Lyxor FTSE 100 ETF at 0.3%
    Lyxor Emerging Markets ETF at 0.65%

    It gets even worse buying in a tax wrapper like my employers pension where I am being charged a minimum of 1% for index tracker funds.

    This means my total asset allocation has fees of 0.6% and I think I’m doing well to keep it that low.

  4. Harry Sit says

    Ari – Thank you for reminding us about the underlying indexes. By coincidence I did not include SCHB in my examples. The Schwab open-end total stock market index fund tracks the DJ Wilshire 5000 Index. Its international index fund tracks a Schwab index. For a small portfolio though, these finer details don’t matter that much. If one has to pay a commission to buy VTI every month, one is still better off buying SCHB without a commission.

  5. Charlotte_Res says

    Thanks for this info. If these features are available to IRA’s its a no-brainer for young professionals to begin saving for retirement with these firms.

  6. Harry Sit says

    Jeff – Fidelity usually requires $2,500 minimum for each fund. If you commit to $200 a month in an IRA, they will let you start with no minimum. Otherwise you only have those 25 commission-free ETFs for low minimum.

  7. Harry Sit says

    KD – Yes, it would. I only gave the example to make it comparable with the portfolios made up of low-minimum, commission-free funds and ETFs at Schwab and Fidelity.

  8. zany says

    Schwab has recently reduced the fees for the ETFs and I am very tempted to move there for new money (instead of vanguard). I love vanguard but there are all these nuances with the brokerage that I would rather move.

    One thing I don’t understand – If two ETFs track the same index (say SCHB/VTI or SCHA/VB), are they really equal, except for the expense ratios? What about dividends and capitals gains? Would a smaller fund (schwab in this case) be giving out higher dividends and capital gains just because it may not be able to absorb the churns of the ETF? I say this because while the graphs look similar, the dividends don’t (on google finance).

  9. Harry Sit says

    @zany – Schwab and Vanguard ETFs track similar, but not exactly the same indexes. They are not really equal. Funds and ETFs are required to pass through all dividends to the shareholders. A tax efficient fund or ETF will minimize capital gains. Neither SCHA and SCHB distributed capital gains in 2010.

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