When you’re choosing between ETFs with the same underlying index/assets, the temptation is to buy the one with the lowest TER.
This is not wrong, but there is another cost that also needs to be factored in and that’s the cost of the spread.
What’s a spread?
The spread is the difference between the buy and sell price on the JSE. Because an ETF has a market maker there is a built-in spread which can be expressed as a percentage.
For example, take two ETFs with the same underlying basket but different issuers. One has a spread of 0.5% and the other 1.5%. Assuming that you cross the spread (buy at the best sell price) the ETF with the wider spread will cost you an extra 1%. You’ll pay again when you sell, but ideally that’ll be in many years.
If you have access to live or delayed JSE pricing, spotting the spread is easy. The market maker will be trading in large round numbers. They’ll also be adjusting the buy/sell price in real time as the underlying index changes.
Here you quickly spot that the 1nvest ETF has the smallest spread. But you’ll also notice that Satrix while with a wider spread, has a lot of decent volume trading in-between their buy and sell spread. This is likely other market makers who are buying and selling in the open market. This is totally legit and makes for more efficiencies.
In fact we can see a number of possible other market makers in large round numbers who may or may not be the issuer. If anything they will be better than the issuer market maker and help us get a better price.
Using the circled prices above, the average spread is ±0.5% with 1nvest the outlier at ±0.1%. But their TER is 0.29% compared to Satrix 0.1% so you’re saving on spread is eaten up in two years by higher TER.
So at the end of the day, in this example TER was the better indicator of total cost over time, largely as the Top40 ETFs have pretty much become commoditised.
But this remains a worthwhile exercise because sometimes the differences are marked.
ETF blog
At Just One Lap, we are big fans of passive investment using ETFs. In this weekly blog, we discuss ETFs on the local market and the factors you need to consider when choosing an ETF. If you have wondered how one ETF differs from another, this is where you can find out. We explain which index each ETF tracks, what type of portfolio could benefit from holding each ETF, and how the costs will affect your bottom line.