Are Index Funds Expensive?

Index funds have long been touted as a hassle-free way of gaining exposure to the stock market, and they’ve been growing in popularity in the UK thanks to the rise of exchange-traded funds (ETFs). However, not everyone is a fan.

On the Damien Talks Money YouTube channel, one commenter wrote: “Index funds have high fees and this hits the compound interest you would have earned.”

Of course, all investment products come with some sort of cost. From trading fees to stamp duty, expense ratios to bid-ask spreads, there’s no such thing as a free lunch.

But the question remains: are index funds expensive?

Let’s take a look.

How much index funds cost

Expense ratios

The first thing to bear in mind is the total expense ratio (TER) associated with an index fund — this is how much it costs to run, represented as a percentage of your investment. This is now more commonly known as the ongoing charge (OCF).

They typically amount to a tiny fraction of one percentage point, but even the smallest of fluctuations can have a huge impact on gains over time.

The significant impacts of small percentage differences are demonstrated later in this article.

Broker fees

Next, it’s important to examine whether your chosen trading platform charges any fees for having an account with them — and if there’s an additional cost when gaining exposure to ETFs, beyond their expense ratio.

Here’s a comparison of the fees charged by four popular brokers in the UK right now:

Broker	Platform fee (annual)*	Trading fee
InvestEngine	0%	£0
Trading 212	0%	£0
Vanguard	0.15% (capped at £375)	£0
Hargreaves Lansdown	Up to 0.45% (capped at £45 in ISAs and £200 in SIPPs)	£0 via regular direct debit £11.95 for one-off purchases

Other things to consider

• There may be other fees charged by brokers that aren’t included in the OCF, including charges picked up as a result of buying or selling certain shares.
  
• If you buy a fund that’s based abroad, such as the U.S. or France, you may have to pay foreign exchange (FX) fees.

• Withholding taxes may also apply if you end up receiving dividends.

• Bid-ask spreads apply to ETFs (though not traditional index funds), which reflects the difference between what someone’s willing to pay for an ETF, and the price a seller wants. Popular ETFs with high levels of trading volume tend to deliver tighter spreads.

• Some platforms give you the option to pay fees by card or Direct Debit, meaning you won’t have to sell your investments and miss out on potential compounding value.

• Stamp duty does not apply when you’re investing in ETFs, whereas it does with individual shares.

• There can be sizable differences in the expense ratios of ETFs tracking exactly the same stock market index — as well as how they perform. For example, the SPDR S&P 500 distributing ETF (SPX5) charges fees of 0.03%, while a comparable product from Vanguard (VUSA) costs 0.07%.

No content on Financial Interest should be considered to be financial advice. Fund names and brokers are provided as examples and are not recommendations. Seek help from a professional if you require tailored input.

With additional fees in mind, let’s compare how much it would cost to invest in ETFs across the same four example providers per year — accounting for a 0.15% total expense ratio, as well as platform charges and dealing fees where applicable.

To keep things simple, we’ll stick to GBP (£) funds to avoid FX fees and foreign taxes.

This example scenario compares:

• Investing £100 a month via direct debit
• Investing £10,000 as a lump sum
• The ongoing cost of having £250,000 invested in index funds

Broker	£100 per month (annual fee)	£10k lump sum (annual fee)	£250k invested (annual fee)
InvestEngine	£1.80 fund fee	£15 fund fee	£375 fund fee
Trading 212	£1.80 fund fee	£15 fund fee	£375 fund fee
Vanguard	£1.80 fund fee + £1.80 platform fee	£15 fund fee + £15 platform fee	£375 fund fee + £375 platform fee
Hargreaves Lansdown	£1.80 fund fee + £5.40 platform fee + £0 dealing fees	£15 fund fee + £45 platform fee + £11.95 dealing fee	£375 fund fee + £45 platform fee*

The effect on compounding

As shown in the table above, fees can differ wildly between brokers.

And there are much more expensive brokers out there too — we decided not to feature them here, though some are highlighted in our ISA comparison.

Paying higher fees can put a dent in the amount you gain via compounding returns.

Here’s the effect that different fees can have on your overall compounded value, assuming a £10,000 annual investment for 30 years, with a 7% average annual return:

Annual fee (%)	Fees paid	30-year portfolio value	Difference vs 0% fees
0.1%	£10,993	£1,034,446	-£21,155
0.25%	£26,933	£1,003,583	-£52,018
0.5%	£52,092	£954,374	-£101,227
0.75%	£75,587	£907,819	-£147,782
1%	£97,522	£863,771	-£191,830

As the original YouTube commenter suggested, fees can have a significant impact on your returns.

However, that commenter also suggested index funds are expensive… but are they?

Well, that depends.

Using the same example as above (investing £10,000 per year for 30 years with a 7% annual return), if your total annual charges come in at 0.5%, you would pay roughly £47,746 in fees over the course of 30 years.

That sounds like a lot.

However, 0.5% is on the higher end of what’s out there — some brokers charge more than this, but if you shop around and invest intelligently, you can avoid some fees. For example, many brokers allow you to avoid trading fees on funds if you set up an ongoing monthly investment.

And even at this relatively high level of 0.5%, total profits would still come in at over £650,000 — almost 13 times the amount paid in fees.

All investments have risk and can increase or decrease in value. Returns are not guaranteed. Past performance is not a reliable indicator of future results.

To put a clear opinion out there: We don’t believe investing in index funds is expensive. However, this is just the opinion of Financial Interest — we’re a collection of regular Average Joe investors, not qualified financial advisers.

How do individual stocks compare?

When it comes to fees, you might be wondering how fund investing compares to buying stocks individually.

If you buy specific shares, you avoid fund management fees entirely — there is no ‘total expense ratio’ to contend with — but you’ll have other factors and fees to bear in mind.

For one, your broker might charge a commission based on every trade — this could be in the form of a flat fee, or a percentage of the transaction’s value. Building up a big portfolio can make these fees really start to add up.

Buying shares in the UK also incurs stamp duty of 0.5%.

This means if you’re buying £2,000 worth of stock in a FTSE 100 company, that’ll come at a cost of £10.

This tax alone is likely to be higher than most fund fees over a 12-month period, but it is a one-off charge that could make more financial sense if you’re planning to hold onto these shares for many years.

Costs can end up being higher if you’re investing in foreign stock, such as tech giants on Wall Street. And even if you’re with a platform that promises zero commission, there will still be some fees to pay. 

For example, FINRA charges a trading activity fee of $0.000166 per share you buy. Because it’s rounded up to the nearest penny, the minimum you’ll pay is $0.01 — and there’s a cap for larger transactions of $8.30. This cash goes towards regulating brokerage firms, and has risen quite a bit in recent years.

Meanwhile, there’s also a fee charged by the Securities and Exchange Commission (SEC) whenever you sell US stock — and that’s surged substantially as of May 2024. It used to come in at 0.0008% of the value of a transaction, but it’s now been set at 0.00278%. Very quick maths tells me that’s a jump of 247.5%.

Another factor worth watching for is foreign exchange (FX) fees, which are charged whenever your money’s being converted from pounds into foreign currency — usually euros and dollars for investors.

Here’s how they compare:

Provider	Forex fees
Trading 212	0.15%
Hargreaves Lansdown	1% on first £5,000 0.75% from £5,001 to £10,000 0.5% from £10,001 to £20,000 0.25% from £20,001 onwards

This means that buying £5,000 worth of shares priced in USD ($) could range anywhere from £7.50 to £50 via the brokers listed.

One particular area where index funds have a distinct advantage, both in terms of cost and convenience, relates to tracking a particular index.

Whether it’s the FTSE 100 or the S&P 500, you can effortlessly gain exposure to hundreds of different companies without paying transaction fees for each one.

And on top of that, if you’re planning to invest over a long time horizon like 30 years, how would you know which individual shares are even still going to be around in 2054, let alone which ones will have surged in price?

Verdict

Index funds can be more expensive than buying individual shares in some situations, and they can be cheaper in others.

Some funds charge very high total expense ratios — sometimes even exceeding 1% — so keep a watchful eye out for those.

Overall, with all things considered, we’d say index funds are generally not that expensive.

Compared to actively managed funds, they’re certainly a lot cheaper than some of the other less passive options out there.

Using an auto-enrolled work-based pension?

The fund you're contributing to might not be right for you

Send The Info