Big Problem With Fidelity Index Funds – Zero Fee Funds Explained
Jason 0 Comments Retire Wealthy Retirement Planning
– Fidelity offers zero fee index funds. Can you believe it? They're such a kind,
privately held company that's willing to give
up a bunch of profit to help out the little guy
investor like you and me. – So you're telling me
there's a chance? Yeah. – Ah, not so fast. – What?!
– As with most things, there's a bit of a catch, and the Fidelity zero fee
index funds are no different. So, let's go through what you need to know about these things, then we'll stack up each one
to its fee based competitor. Before we get too deep into it, I need to say that I am by no means implying that you should
sell these index funds if you currently hold them. You could be investing in
much worse financial products, like anything that Cathie
Wood has her name attached to. I'm basically going to be giving you a peak behind the curtain of
these zero fee index funds to show you what isn't so
obvious on the surface, In 2018, Fidelity started offering four different index funds where they charge you $0 to own them.
These four funds consist of
a large cap, total US market, extended market and
international index fund. At first glance, this seems
like an odd thing to do, because they already offer
an S&P 500, total US market, extended market and
international index fund where they charge you to own them. Yes, the fees for these funds
are extremely cheap as it is. But by offering these zero fee funds, they're in direct
competition with themselves.
I can promise you they're not doing this out of
the goodness of their hearts. To help uncover why they're doing this we just have to follow the money, but not the money that they
don't make from these funds, the potential money that they could make in other areas of their business by offering you these zero fee funds. These funds are what you would consider to be a loss leader for Fidelity. Kind of like how Costco sells their rotisserie chickens for a loss to the tune of being out $30,000,000 to $40,000,000 per year. The goal for Costco, and
Fidelity in this case, is to get you into their ecosystem so that they can sell you on more profitable products and services. If you are already through
the doors of Costco to buy your unhealthy, corn-fed,
GMO, rotisserie chicken, then you're more likely
to buy additional items. If you are already investing
in Fidelity's zero fee funds, then you're more likely to use them first if you are looking for
a financial advisor, annuity, life insurance
or more expensive funds. This of course won't
work for every customer.
But the lost leader business model doesn't need to have a 100% success rate. They just need a small portion of people to buy these more expensive
products and services. Once Fidelity has you in the doors and investing into their funds, they lock you into
their umbrella even more by penalizing you if you wanna move to a
different investment platform. These Fidelity zero
fee funds are exclusive to their investing platform and cannot be bought on or transferred to any other platform. With their other fee based index funds, you can transfer those out of Fidelity and onto any other platform like Vanguard, Charles
Schwab or any of the others. They'll usually come with a transfer fee, but this is par for the
course no matter where you go and which fund you decide to move.
With these zero fee funds,
you have to sell them if you wanna move your
investment somewhere else, which means that you might
have to pay capital gains taxes if they're held within a
taxable investment account. It might not be a big
deal to you right now, but if for some reason
at a point in the future you become unhappy with
Fidelity, then you're screwed. Before I tell you my biggest issue with these zero fee funds, please help and support this channel, and my dog, Molly, who
actually just tore up her leg and had to get stitches, by
hitting that thumbs up button.
The word index fund
gets thrown around a lot by these large investment
institutions nowadays because of how successful
they've been over the years. At this point, a lot of people understand the power of investing in index funds. But not all index funds
are created equally, and it's not so obvious unless
you know what to look for. Technically, you could create your own custom stock market index. And if I wanted to create a
fund that tracks your index, then I could call it an index fund. The problem is that you are
most likely an unknown person with an unknown track record
and an unproven process. There's a couple levels of trust that need to exist
within this whole process between the financial index provider, the index fund and the investor. My fund needs to trust
your indexing process, and the potential investors within my fund needs to have some level of trust in how my fund attracts your index. There's a few different well-known and trusted
financial index providers that index fund creators like Fidelity, Vanguard and Charles Schwab pay a licensing fee to to create their fee based index funds.
The Fidelity zero fee index
funds are a lot different in that they don't want to
have to pay the licensing fee to these trusted index providers because they need to cut corners to reduce the cost to run their funds. Because if they're still
doing a bunch of work and you are not paying
them to do that work, they're gonna cut corners
wherever they can. But they still need to
track some sort of index to be able to call
themselves an index fund. To do that, Fidelity has created
their own internal index, which is what their zero fee funds track.
This might not seem like a big deal, but their indexing methods haven't been around for very long, which means that they are unproven. I'm also not sure how
I feel about Fidelity creating the index that
their zero fee funds track. Having an unassociated
third party index provider at least gives a little
bit of separation of power within the whole process. To show you why I'd prefer 75% of the fee based Fidelity index funds over the zero fee index funds, let's compare them against each other so I can show you the biggest differences. For the total market index we have the zero fee index fund FZROX and the comparable fee
based index fund FSKAX. The stock style for both are pretty close so there's really no issue there. Next, we can look at the
total holdings for each one. The zero fee fund holds 2,655 stocks, while the fee based fund holds 3,998. For me, I want my index funds, especially my total market index funds, to hold as many stocks as possible.
The zero fee fund fails to do this. Lastly, the portfolio turnover
for each is different. This is important to know because the higher portfolio turnover means more stocks are
being bought and sold which is going to cost you money. The zero fee fund is at 4%, while the fee based fund is at 3%. Not a huge difference, but for me, I prefer to keep
this as low as possible. I also like the option
of investing in the fund that charges 0.015% to track
a larger number of stocks, instead of only sampling 2,600 stocks like the zero fee fund does. For the large cap index, we have these zero fee index fund FNILX, and the comparable fee
based index fund FXAIX. The stock style for both of these are pretty darn close as well so there's nothing too concerning here. Since both of these are large cap only we see that the total
holdings are about the same, which it should be. For the portfolio turnover, we see that the Fidelity
S&P 500 index fund is at 2%, while the zero fee
large cap fund is at 5%.
I personally choose to
pay the extra 0.015% to hold the true S&P 500 index fund. We see the biggest divergence with the extended market index funds. For this comparison we have these zero fee index fund FZIPX and the fee based index fund FSMAX. As you can see, the stock
styles are way different. The stock style for FSMAX is more in the mid and small cap range with a tilt towards growth. FZIPX is more in these small cap stocks with a tilt towards value. The sector breakdown
for the fee based fund has more money going into technology, while the zero fee fund has more money going into
everything else except tech. Once again, the fee based
fund holds more stocks, which I like, at 3,703 of them, while the zero fee fund
only holds 2,143 stocks. The turnover ratios make me
sick just looking at them. 18% for the fee based fund
and 25% for the zero fund. I am not a huge fan of
any extended market funds, so I prefer to stay
away from both of these. The last zero fee fund that we have is the international index fund FZILX. We'd wanna compare it to the fee based international
index fund FSPSX.
Stock style for both
are basically identical. The sector exposure between them both are all over the place. So, I'll throw up a screenshot so you can pause the video
to see it for yourself. The holdings are a lot
different than you'd think. The zero fee fund holds 2,377 stocks, while the fee based fund
only holds 832 of them. One of the big reasons the
zero fee fund holds more stocks is because it encompasses both developed and emerging markets, while the fee based fund
excludes emerging market stocks and only focuses on developed market. Believe it or not, I kind of like the zero fee
international index fund a little bit more because I prefer developed
and emerging market stocks to get more diverse exposure. The only things I don't like about it is the 8% turnover ratio, as well as the fact that you're kind of stuck
in the Fidelity ecosystem if you hold these zero fee fund. Make sure to hit that thumbs up button to support the channel before you go. If you wanna see my preferred
Fidelity index funds or Vanguard ETFs that you can purchase on the Fidelity platform, then watch these videos to your left next.
I'll see you in the
next one, friends. Done..
