Dec 14, 2015

Up until 2005, Morningstar reports that the expense ratio of ETFs averaged 0.4 percent, according to Morningstar. Since 2005, the average expense of new funds has now jumped to over 0.6 percent, and some new exchange-traded products are charging over 1.0 percent in fees annually.

ETFs suddenly cost more than people think. Increasingly, ETFs are seeing such volume that a new cost has crept into the math, known as “Tracking Errors”: ETF managers are supposed to keep their funds’ investment performance in line with the indexes they track. That mission is not as easy as it sounds, says Morningstar.

Throughout the trading day, the spread between underlying securities and the ETF can be significant. In a nutshell, the price you see for the ETF may not be equal to the sum of the shares inside the ETF.

For example, on August 24 when the market opened down 5.3%, the Vanguard Dividend Appreciation fund VIG, was down a whopping 38% for more than an hour. Steve and Sinclair breakdown some of the pros and cons now affecting many ETFs. Those are the extremes, but on an increasing basis, "tracking error" is getting to be a bigger factor.

In the Q & A, Steve reviews a more effective approach to reducing risks on the bond side of the portfolio and putting lazy money to work. The purpose of your money should dictate where you place it. But never forget your risk tolerance and time horizon. Here's how to help simplify your investment choices.