Index funds charge a fraction of what actively managed funds charge. The difference comes from what the manager is actually being paid to do rather than from any pricing decision.
The portfolio is defined by a published rule
An index provider publishes the method by which constituents are selected and weighted. The fund's job is to hold that basket in those proportions.
No analyst team is required to decide what to own. The decision has already been made by the rule, and the fund simply implements it.
Research salaries are the largest cost inside an active fund. Removing them removes most of the expense before any other efficiency is considered.
Trading happens only when the index changes
An active manager may reposition frequently. Each trade carries brokerage costs and the spread between buying and selling prices.
An index fund trades mainly at rebalancing dates, when constituents are added or removed, and when investors put money in or take it out.
Lower turnover means lower dealing costs, and those costs sit inside performance rather than in the headline fee, which makes the saving easy to overlook.
Scale spreads the fixed costs
Custody, audit, administration and regulatory reporting cost roughly the same whether a fund holds a modest sum or a very large one.
Those costs are recovered as a percentage of assets, so a large fund can charge a much smaller percentage and still cover them comfortably.
This creates a self-reinforcing pattern in which the largest funds can price lowest, which in turn attracts more assets.
What the remaining fee actually pays for
Some cost never disappears. Index licensing is paid to the provider, custody is paid to a bank, and the fund still needs oversight and compliance.
There is also the practical work of tracking, since dividends arrive at awkward times and cash must be managed so the fund does not drift from the index.
The quality of that work shows up as tracking difference, which is a more useful comparison between similar funds than the stated fee alone.
Why fee differences persist
Funds tracking the same index can still charge different amounts, because distribution costs and platform arrangements vary between markets.
Older share classes sometimes carry legacy pricing that was set when the fund launched and was never reduced for existing holders.
The mechanism keeping costs low is competitive rather than automatic, which is why identical mandates do not always converge on identical pricing.