Mutual funds can be purchased without trading commissions, but in addition to operating expenses they may carry other fees (for example, sales loads or early redemption fees.
ETFs often generate fewer capital gains for investors since they may have lower turnover and can use the in-kind creation/redemption process to manage the cost basis of their holdings.
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Mutual Funds
A sale of securities within a mutual fund may trigger capital gains for shareholders—even for those who may have an unrealized loss on the overall mutual fund investment.
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How to choose ETFs vs. Mutual Funds
ETF or mutual fund? Which is right for you?
That all depends on your goals and the type of investor you are.
Consider an ETF, if:
You trade actively
Intraday trades, stop orders, limit orders, options, and short selling—all are possible with ETFs, but not with mutual funds.
You're tax sensitive
ETFs and index mutual funds tend to be generally more tax efficient than actively managed funds.
And, in general, ETFs tend to be more tax efficient than index mutual funds.
Consider an index mutual fund, if:
You invest frequently
If you make regular deposits—for example, you use dollar-cost averaging—a no-load index mutual fund can be a cost-effective option, and it allows you to fully invest the same dollar amount each time (since mutual funds can be purchased in fractional shares).
Similar ETFs are thinly traded
When you buy or sell ETF shares, the price may be less than the net asset value (or, NAV) of the ETF. This discrepancy (aka: the "bid/ask spread") is often nominal, but for less actively traded ETFs, that might not always be the case.
By contrast, mutual funds always trade at NAV, without any bid/ask spreads.
Consider an actively managed mutual fund, if:
You're looking for a fund that could potentially beat the market
People invest in actively managed mutual funds in hopes they'll surpass their benchmarks.
Also, actively managed funds acquired as part of a specific strategy may complement index funds in a portfolio, and help to reduce downside risk and mitigate market volatility.
Some markets are "highly efficient"—which means they’re so popular, there isn't much opportunity to add any real value via active portfolio management.
But in less efficient markets–like high-yield bondsoremerging markets–there may be greater opportunities through active portfolio management.
ETFs and mutual funds, at a glance:
ETFs and mutual funds, at a glance:
ETFs and mutual funds at a glance
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Passive ETFs
Passive ETFs
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Active ETFs
Active ETFs
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Index Mutual Funds Tooltip
Index Mutual Funds Tooltip
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Actively Managed Mutual Funds Tooltip
Actively Managed Mutual Funds Tooltip
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Expense Ratio (OER) Tooltip
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Passive ETFs
Generally lower than actively managed mutual funds.
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Active ETFs
Generally higher than passive ETFs; on par with a mutual fund’s institutional share class.
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Index Mutual Funds Tooltip
Generally lower than actively managed mutual funds.
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Actively Managed Mutual Funds Tooltip
Generally higher than passively managed, index-tracking funds
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Performance
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Passive ETFs
Performance generally seeks to track a benchmark index
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Active ETFs
Performance seeks to outperform a benchmark index.
Mutual funds have more complex structuring than ETFs with varying share classes and fees. ETFs typically appeal to investors because they track market indexes. Mutual funds appeal because they offer a wide selection of actively managed
actively managed
What Is Active Management? The term active management means that an investor, a professional money manager, or a team of professionals is tracking the performance of an investment portfolio and making buy, hold, and sell decisions about the assets in it.
Neither mutual funds nor ETFs are perfect. Both can offer comprehensive exposure at minimal costs, and can be good tools for investors. The choice comes down to what you value most. If you prefer the flexibility of trading intraday and favor lower expense ratios in most instances, go with ETFs.
ETFs have several advantages for investors considering this vehicle. The 4 most prominent advantages are trading flexibility, portfolio diversification and risk management, lower costs versus like mutual funds, and potential tax benefits.
At any given time, the spread on an ETF may be high, and the market price of shares may not correspond to the intraday value of the underlying securities. Those are not good times to transact business. Make sure you know what an ETF's current intraday value is as well as the market price of the shares before you buy.
Both can track indexes, but ETFs tend to be more cost-effective and liquid since they trade on exchanges like shares of stock. Mutual funds can offer active management and greater regulatory oversight at a higher cost and only allow transactions once daily.
Leveraged ETF prices tend to decay over time, and triple leverage will tend to decay at a faster rate than 2x leverage. As a result, they can tend toward zero.
Liquidation of ETFs is strictly regulated; when an ETF closes, any remaining shareholders will receive a payout based on what they had invested in the ETF. Receiving an ETF payout can be a taxable event.
Vanguard is paid by the funds to provide administration and other services. If Vanguard ever did go bankrupt, the funds would not be affected and would simply hire another firm to provide these services.
If you're paying fees for a fund with a high expense ratio or paying too much in taxes each year because of undesired capital gains distributions, switching to ETFs is likely the right choice. If your current investment is in an indexed mutual fund, you can usually find an ETF that accomplishes the same thing.
Both are less risky than investing in individual stocks & bonds. ETFs and mutual funds both come with built-in diversification. One fund could include tens, hundreds, or even thousands of individual stocks or bonds in a single fund. So if 1 stock or bond is doing poorly, there's a chance that another is doing well.
In terms of safety, neither the mutual fund nor the ETF is safer than the other due to its structure. Safety is determined by what the fund itself owns. Stocks are usually riskier than bonds, and corporate bonds come with somewhat more risk than U.S. government bonds.
Mutual funds offer diversification or access to a wider variety of investments than an individual investor could afford to buy. Investing with a group offers economies of scale, decreasing your costs. Monthly contributions help your assets grow. Funds are more liquid because they tend to be less volatile.
Key Takeaways. ETFs are less risky than individual stocks because they are diversified funds. Their investors also benefit from very low fees. Still, there are unique risks to some ETFs, including a lack of diversification and tax exposure.
While these securities track a given index, using debt without shareholder equity makes leveraged and inverse ETFs risky investments over the long term due to leveraged returns and day-to-day market volatility. Mutual funds are strictly limited regarding the amount of leverage they can use.
If you're paying fees for a fund with a high expense ratio or paying too much in taxes each year because of undesired capital gains distributions, switching to ETFs is likely the right choice. If your current investment is in an indexed mutual fund, you can usually find an ETF that accomplishes the same thing.
The administrative costs of managing ETFs are commonly lower than those for mutual funds. ETFs keep their administrative and operational expenses down through market-based trading. Because ETFs are bought and sold on the open market, the sale of shares from one investor to another does not affect the fund.
At least once a year, funds must pass on any net gains they've realized. As a fund shareholder, you could be on the hook for taxes on gains even if you haven't sold any of your shares.
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