When Does Index Replication Pay Off? : A Cost-Based Comparison of Index Funds and Direct Index Replication

Sammanfattning

Passive investing through index funds is the default for most retail investors, but the rise of low-cost Swedish brokerage platforms has made building a personal index portfolio increasingly viable. This raises a practical question: at what capital threshold does direct replication of the OMXS30GI index actually become cheaper than paying a traditional index fund fee? While direct index replication has been heavily studied in markets with fractional trading, the Swedish retail environment presents a unique structural problem. Investors must buy whole shares and navigate tiered commission structures. The resulting uninvested cash drag compounds over time, yet its specific impact on tracking error and net returns has lacked rigorous quantification, leaving investors without clear cost-efficiency guidelines. To address this gap, this study constructs a quantitative simulation of a full-replication OMXS30GI portfolio over approximately a ten-year period (2016–2026). The model incorporates integer-share rounding, bid-ask spreads, delayed dividend reinvestment and semi-annual rebalancing. Benchmark alignment is evaluated using OLS regression and autoregressive AR(𝑝) models. A break-even framework is then applied across various capital levels, Avanza brokarage tiers and fund fee scenarios to find exactly where directreplication outperforms. The empirical results show that direct replication structurally underperforms. The simulated portfolio yields a 9.10% CAGR compared to the benchmark’s 11.29%, carrying an annualised tracking error of 4.50%. Most notably, when compared to actual index funds charging 0.20%, no break-even capital threshold exists. The permanent cash drag caused by integer constraints systematically erodes any savings on management fees, with break-even points only emerging against hypothetical funds charging upwards of 2% annually. Ultimately, this thesis demonstrates that due to current implementation constraints, direct replication remains economically inferior to low-fee index funds for Swedish retail investors, regardless of their capital size.