Discount Brokers Lower Fees in Battle Over ETFs

The slugfest between the two heavyweights of discount brokerage, Fidelity and Charles Schwab, is intensifying. That’s great news for investors, particularly those who favor exchange-traded funds.

Fidelity announced on February 2 that it will waive commissions on 25 iShares ETFs for at least the next three years. The move followed an announcement from Charles Schwab in November that it will not charge customers commissions when they trade any of the eight ETFs it manages. Fidelity also lowered its online stock commission to $7.95 per trade for all customers (that amounts to a reduction of up to 60% from the previous level). The action undercut Schwab, which in January cut its online stock commission from $12.95 to $8.95 per trade.

Because of their popularity, ETFs have become a battleground for brokers. In the past year alone, assets in U.S. ETFs grew by 45%, to $776 billion. Investors like ETFs because they charge low fees, disclose their holdings daily and trade during the day like stocks. Traditional mutual funds, by contrast, are priced just once a day, at 4 P.M. eastern time.

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The main drawback of most ETFs is that you have to pay commissions when you buy or sell them. That’s particularly problematic for those who practice dollar-cost averaging -- investing a fixed amount on a regular basis. Until now, it has been cheaper for averagers to use regular index funds. The same issue applies to rebalancing -- brokerage commissions make it impractical to rebalance an ETF portfolio because relatively small amounts of money may be involved. The waivers from Fidelity and Schwab make commissions a moot issue.

Fidelity and Schwab take different approaches to commission-free ETFs. Fidelity partnered with BlackRock, whose iShares ETFs hold half of all the ETF assets in the U.S., to waive commissions on 25 popular and widely used funds. Schwab created its own family of eight ETFs.

Each approach has its benefits. Fidelity customers have a broad range of commission-free ETFs to select from to build a diversified portfolio. The commission-free menu includes 16 U.S.-stock ETFs, four international ETFs and five bond ETFs. (For the full list, see the chart below.) You can choose iShares ETFs that hold small-company stocks as well as ones that tilt toward growth or value stocks. Overall, customers can buy more than 800 ETFs at Fidelity, but the broker doesn’t plan to waive commissions on any more ETFs soon.

Schwab waives commissions on only the five U.S.-stock ETFs and three foreign-stock ETFs that it manages. Schwab’s edge stems from its ETFs’ rock-bottom expenses. Seven of the eight ETFs have a lower expense ratio than comparable iShares funds and other ETF rivals. For example, Schwab U.S. Broad Market (SCHB) charges 0.08% annually, compared with 0.21% levied by iShares Russell 3000 (IWV) and the 0.09% charged by Vanguard Total Stock Market (VTI). Schwab Emerging Markets (SCHE), with an annual expense ratio of 0.35%, is the only Schwab ETF with a cheaper competitor -- Vanguard Emerging Markets (VWO) charges 0.27% per year.

If you want rock-bottom commissions, you’ll have to use other brokers. For example, Just2Trade charges $2.50 per trade, SogoTrade charges $3 and TradeKing nicks you for $4.95. None of these firms, however, offers the bells and whistles that Schwab and Fidelity do.

If you’re interested primarily in ETFs, there's no need to look beyond Fidelity or Schwab. After all, you can’t do better than a commission of zero. For now, Fidelity is ahead on points, but it hasn’t scored a knockout yet. Don’t be surprised to see some counterpunches from Schwab in later rounds.

Fidelity Commission-Free ETFs

iShares S&P 500 Value (IVE)

iShares Russell 1000 Value (IWD)

iShares S&P 500 (IVV)

iShares Russell 1000 (IWB)

iShares Russell 3000 (IWV)

iShares S&P 500 Growth (IVW)

iShares Russell 1000 Growth (IWF)

iShares S&P MidCap 400 Value (IJJ)

iShares S&P MidCap 400 (IJH)

iShares S&P MidCap 400 Growth (IJK)

iShares S&P SmallCap 600 Value (IJS)

iShares Russell 2000 Value (IWN)

iShares S&P SmallCap 600 (IJR)

iShares Russell 2000 (IWM)

iShares S&P SmallCap 600 Growth (IJT)

iShares Russell 2000 Growth (IWO)

iShares MSCI EAFE (EFA)

iShares MSCI EAFE Small Cap (SCZ)

iShares MSCI Emerging Markets (EEM)

iShares MSCI ACWI (ACWI)

iShares Barclays TIPS (TIP)

iShares Barclays Aggregrate (AGG)

iShares iBoxx $ Investment Grrade Corporate (LQD)

iShares JP Morgan USD Emerging Markets (EMB)

iShares S&P National AMT-Free Municipal (MUB)

Charles Schwab Commission-Free ETFs

Schwab U.S. Broad Market (SCHB)

Schwab U.S. Large-Cap (SCHX)

Schwab U.S. Large-Cap Growth (SCHG)

Schwab U.S. Large-Cap Value (SCHV)

Schwab U.S. Small-Cap (SCHA)

Schwab International Equity (SCHF)

Schwab International Small-Cap Equity (SCHC)

Schwab Emerging Market Equity (SCHE)