Financial Planning Blog

Last week Vanguard joined Charles Schwab and Fidelity in offering commission free trading of selected exchange traded funds (ETFs) on their brokerage platform. It is great to see competition between these discount brokers bring down transaction costs for the individual investor.

If you aren't familiar with ETFs and how they may fit into a low cost, diversified investing strategy, please check out these previous articles explaining what ETFs are, their advantages, and some cautions. Now let's compare the ETF offerings from these three discount brokers.

Charles Schwab fired the first shot last November when it announced commission free trades on its new line-up of exchange traded funds. Earlier in the year Schwab had announced four new low cost equity index mutual funds, signaling a new competitive push for passively managed funds. The 8 new Schwab ETFs include:

• 5 U.S. equity ETFs tracking Dow Jones indexes
• 3 international equity ETFs tracking FTSE indexes
• No fixed income ETFs

For non-Schwab ETFs, on-line trades are $8.95.

Fidelity followed suit in February announcing commission free trading of 25 iShares ETFs. As you may know, iShares (formerly part of Barclays, now owned by Blackrock) is the leading ETF provider in the US, offering over 350 funds. The iShares ETFs available commission free at Fidelity include:

• 16 US equity ETFs tracking both Russell and S&P indexes
• 4 international equity ETF tracking MSCI indexes
• 5 fixed income ETFs

For all other ETFs, on-line trades at are $7.95 at Fidelity.

Vanguard is offering all 46 of its ETFs commission free to Vanguard brokerage customers, eclipsing both the Schwab and Fidelity offerings. Not only that, Vanguard is offering lower commissions in trading non-Vanguard ETFs, making it arguably the most cost effective place for the individual investor to create a diversified ETF portfolio. The Vanguard ETF offerings include:

• 27 U.S. equity ETFs, tracking mostly MSCI indexes (including 11 sector funds)
• 7 international equity ETFs tracking both MSCI and FTSE indexes
• 12 fixed income ETFs tracking various Barclay's indexes

For non-Vanguard ETFs, trades (on-line or over the phone) will generally cost $2 for customers with over $500K in Vanguard mutual funds and ETFs, or $7 for those with less than $500K in Vanguard assets. For those with less than $50K in Vanguard funds, the $7 trades are for only the first 25 trades per year, with subsequent trades at $20. For those with over $1M in Vanguard funds, the first 25 trades are free, and subsequent trades are only $2.

On one hand, this aggressive move by Vanguard is not surprising. They are highly regarded as low cost investing leaders, and for their passively managed index funds, in particular. However, Vanguard is not a company to encourage excessive trading, and making buying and selling ETFs so easy definitely seems out of character. (You can be sure this was not John Bogle's idea.) This had to be a difficult decision for them, and while they want to be market leaders and build their asset base, it is doubtful they are looking to attract speculators day-trading in their ETFs. To discourage excessive trading, Vanguard is reserving the right to restrict trading if an investor makes more than 25 trades in the same ETF over a 12 month period. I'm surprised they would allow that many.

Vanguard's brokerage ETF offer appears to be the strongest in the industry, especially when you combine it with the ability to buy and sell the whole gamut of Vanguard mutual funds for no transaction fees. Don't be surprised, however, if there are continued competitive responses across the industry. Whether it is worthwhile for you to change brokerages given these developments really depends on your individual situation and investment strategy. As an advocate of a buy-and-hold with rebalancing strategy, the attraction of commission free ETF trading is not to trade more often. Rather, the appeal is in paying less for the limited trades that are required to execute the strategy. One of the great advantages of the commission free trading is that it enables systematic investing in ETFs (for example, monthly dollar cost averaging) that was cost prohibitive before.