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Fidelity Enters the ETF Game

NEW YORK ( TheStreet) --After years of almost no role in the exchange-traded fund industry, fund giant Fidelity has rolled out the following 10 domestic sector ETFs as its first meaningful step to assert the dominance it has enjoyed in the traditional mutual fund sector for many years:

  • Fidelity MSCI Consumer Discretionary Index ETF(FDIS)
  • Fidelity MSCI Utilities Index ETF (FUTY)
  • Fidelity MSCI Consumer Staples Index ETF (FSTA)
  • Fidelity MSCI Energy Index ETF (FENY)
  • Fidelity MSCI Financials Index ETF (FNCL)
  • Fidelity MSCI Health Care Index ETF (FHCL)
  • Fidelity MSCI Industrials Index ETF (FIDU)
  • Fidelity MSCI Information Technology Index ETF (FTEC)
  • Fidelity MSCI Materials Index ETF (FMAT)
  • Fidelity MSCI Telecommunications Services Index ETF (FCOM)

The funds will attract assets for several reasons. The first is that they are cheaper than sector funds from other providers. They will charge only 0.12%, compared with 0.18% for the Select Sector SPDRs from State Street (STT) and similar funds from the other large providers.

In a similar move to Charles Schwab (SCHW), Fidelity will make the ETFs available commission free to account holders at its brokerage arm.

What the funds won't do is offer anything new under the hood. For example, FDIS, the Consumer Discretionary Select SPDR (XLY) and the Vanguard Consumer Discretionary ETF (VCR) all have eight of their top 10 holdings in common, and this type of overlap will exist with all of the Fidelity funds and their competitors.

That is not a negative for the Fidelity funds; it is a huge positive for investors. There are several obstacles investors face, some of which are easier to control than others. One of the impediments that is becoming easier to manage thanks to ETFs are fees. The larger the fee, the larger the drag on performance.

Commission-free access to construct a portfolio and then perform the occasional rebalance is significant. While the lower expense ratio of the Fidelity funds probably won't pull assets away from the Sector SPDRs for six basis points, there are product lines that could see assets leave in favor of the Fidelity Funds. The PowerShares Dynamic Consumer Discretionary Sector Portfolio (PEZ) charges 0.50%. That means PEZ holders are paying $50 per $10,000 invested annually versus just $12 for FDIS. Where $6 might not be meaningful, $38 very well could be.

Another obstacle to long-term investment success are taxes. It wouldn't make sense for investors to switch sector funds for a cheaper expense ratio only to pay a large capital-gains tax. That would like spending a dollar to save a nickel.

As the Financial Times has pointed out, Fidelity was a pioneer in sector investing with its actively managed select sector and industry funds. If the actively managed and thus more expensive traditional funds don't offer discernable outperformance, then Fidelity will be at risk compressed margins as investors will logically choose to pay less for similar performance.

For example, the Fidelity Select Consumer Discretionary Fund (FSCPX) charges 0.84% and has traded just about in line with XLY for the last 10 years, having fallen behind the ETF in the trailing 12 months. Other than being captive to limited choices in a 401(k) plan, there is not much reason to go with the actively managed fund.

The new ETFs reveal what is obvious, which is that the market place is headed toward more passive and cheaper funds to be used in both passive strategies and active strategies that use passive funds.

At the time of publication, the author held no positions in any of the stocks mentioned.

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.

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