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Pershing white paper flags areas advisors need to be aware of when assessing the true cost of ETFs

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Many of the well-known benefits of exchange traded funds (ETFs), including diversification, lower costs, flexibility and tax efficiency, tend to overshadow the complex features and pricing of these products, according to a white paper by Pershing. 

The report, What Lies Beneath: Understanding the Structure and Costs in ETFs, outlines underlying components that impact ETF pricing, and identifies areas that advisors should keep in mind when evaluating the true cost of ETF ownership for their clients.

"As ETFs continue to grow in popularity, it's important for advisors to be as well informed as possible about the apparent and underlying factors that influence the cost of their ownership," says Justin Fay (pictured), vice president and solutions manager for alternative investments and ETFs at Pershing. "Taking these factors into account will help advisors make a more accurate 'apples-to-apples' comparison, between ETFs, as well as between other investment options – such as low-cost mutual funds."

With increased inflows and new products entering the market each day, even seasoned advisors may overlook complex key issues beyond the benefits of ETFs. The report explores factors to consider when evaluating the true cost of ETFs and says that advisors should look beyond expense ratios and also consider costs that are not included in the expense ratio that complex types of ETFs may accrue (ie deferred tax liabilities).

Investors and advisors should also examine the underlying components that can significantly influence the value of the bid-ask spread and understand the implications it can have on the cost of ETFs, while the paper also points out that advisors should not overlook the tracking error – which is the risk that an ETF's price might not match the fund's benchmark.

And finally, advisors should investigate whether the spread on no-transaction fee funds are wider than that of similar ETFs with transaction fees.

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