For most Swiss investors, it’s best to invest in US domiciled ETFs. At least to invest in equities. This entry will try to convince you of this statement. We’ll see why US domiciled funds are arguably a better alternative than Irish, Luxembourgish or Swiss counterparts.
Five arguments for US domiciled ETFs
Broadly speaking, there are five reasons why you should invest in US domiciled ETFs:
- US domiciled ETFs are more efficient from a tax perspective
- US domiciled ETFs have, on average, lower TERs than their European counterparts
- US domiciled ETFs are cheaper to trade than their European counterparts
- There’s currency risk, but you can’t fully eliminate it anyways
- You could currency-hedge, but the cost is huge
These arguments apply both to Swiss and EU residents. Let’s deep dive into each of them.
1 – US domiciled ETFs are more efficient from a tax perspective
As explained in detail in this post, you can eliminate double taxation and reduce the tax rate on dividends by 15% vs the second-best-choice (Irish funds) if you invest in US domiciled ETFs. As explained in this other post, the impact of this 15% tax reduction is equivalent to deducting 30bps from your TER. This has a huge impact over the long run.
Because of the tax treaties the US has with other countries, US ETFs are also very efficient to invest in global funds. Or even in funds that don’t focus on the US at all, such as an emerging markets ETF.
2 – US domiciled ETFs have, on average, lower TERs than their European counterparts
The TERs of US funds are unbeatable. Let’s consider global funds. Global funds are a terrific alternative for passive investors. They allow for a lazy, one-fund portfolio. US domiciled funds are by far the most efficient alternative. For example, VT has a TER of 8bps. It’s European counterpart, VWRL, has a TER of 22bps.
True that sometimes Irish alternatives get close. But efficient Irish alternatives normally have the same currency risks as the US alternative. Why? Because even if they trade in EUR, CHF or GBP, the fund currency is still USD. So you might trade in USD anyways.
Similar to the effect of taxes on dividends, lower TER result in much better investment results in the long run.
3 – US domiciled ETFs are cheaper to trade than their European counterparts
US markets are the biggest and most liquid in the world. Size gives US funds scale. And scale results in lower bid-ask spreads and smaller effective transaction fees.
In contrast, both domestic currency and currency-hedged ETFs are at least 1-2 orders of magnitude smaller in size than their US counterparts. For example, at the time of writing, VOO (a US domiciled ETF) is in the order of USD ~500bn while VUSA (the European counterpart) is in the order of USD ~30bn.
In general, smaller sizes translate into higher costs. Based on my experience, trading costs are also at least one order of magnitude lower with US funds. At least if you use Interactive Brokers, which you should. I remember rebalancing my portfolio from an Irish to a US domiciled fund. I paid CHF ~50 in trade fees to sell CHF ~30k of a CHF-hedged S&P 500 ETF. But I only paid USD ~1 to buy the same amount of an equivalent US domiciled fund.
4 – There’s currency risk, but you can’t fully eliminate it anyways
A common pain point of US domiciled funds is that they trade in dollars. This is one of the reasons that kept me away from them when I started investing. As explained in this post, however, there’s no way around it. Even currency-hedged ETFs can’t fully eliminate currency risks. Besides, unless it’s 100% clear to you that you’ll spend the rest of your life in Switzerland, holding USD likely isn’t a bad choice. USD is a much more global currency than CHF. It’s a good shield against uncertainty.
5 – You could currency-hedge, but the cost is huge
Currency-hedged ETFs are a popular alternative to US domiciled funds. However, besides the impossibility to fully eliminate FX risk, the cost of currency-hedging is huge.
As discussed in this post, the cost of currency-hedged ETFs isn’t their TERs. The true cost is that they normally don’t really track an index (e.g. S&P 500), but rather a hedged version of the index. This hedged version accounts for the cost of hedging (rolling forward contracts). Returns of the hedged version of the index vastly underperform those of the real index. At least if you hedge USD to CHF or EUR. I find the returns comparison table in the original post so revealing that I’ll copy it here again:
|Year||Returns of US domiciled ETF¹||Returns of CHF-hedged alternative²||Delta|
Last updated on June 8, 2020