Mutual funds and ETFs have grown to be the most popular investment options for average investors. Both of these investments are more trustworthy than stocks, which have often been associated with scams and insider trading. However, both mutual funds and ETFs have their own pros and cons that you should know before investing your money in them. If you’re confused as to whether you should invest in an ETF or a mutual fund, here are some things you should know about these two types of investments to help you make the right decision.
What is an ETF?
Exchange-traded funds, or ETFs, are funds that are traded on the stock exchange and have their prices change throughout the day. If you buy ETFs, you buy shares like you would stocks. You’ll be able to see the share price of the ETFs you buy on your brokerage account throughout the day. The price will fluctuate as the ETFs are bought and sold. ETFs are considered to be passively managed funds because they’re made up of a basket of stocks that are meant to track a specific index. ETFs can be based on indexes like the S&P 500 or the Russell 2000, or they can be based on commodities like gold, oil, or silver. You can buy ETFs like stocks, and they can be sold throughout the day or whenever you want. You can also buy ETFs that are based on indexes or commodities to have some of your investment be in something other than stocks.
A mutual fund is an investment vehicle that pools money from many people and invests that money in stocks, bonds, or other types of securities. Mutual funds are managed by investment companies, and they are made up of a basket of securities. You buy shares in the mutual fund, and you’ll likely get a share of the total value of all of the securities in the fund. Mutual funds are considered actively managed funds because their managers will buy and sell securities in the fund based on their goals and the securities that are in the index. Mutual funds are managed by investment companies, and those companies hire investment managers to run their funds.
Read What’s an ETF Stock? What You Need to Know Before Investing.
Differences between ETF and Mutual Fund
Since ETFs and mutual funds are both types of funds, they’re very similar in many ways. The main difference between these two investment vehicles is that ETFs are bought and sold on the stock exchange, while mutual funds are bought and sold by investors through a mutual fund company. ETFs and mutual funds are bought and sold in the same way. You’ll be able to see the share price of the ETFs or mutual funds you buy on your brokerage account throughout the day. The difference in trading is that ETFs are bought and sold through a stock exchange, while mutual funds are bought and sold through a mutual fund company. The ETFs are bought and sold through a broker, and the investor does not interact with the fund company. The mutual funds are bought and sold by investors going through the mutual fund company.
– Easy to buy and sell. You can buy and sell ETFs whenever you want, even if the market is closed, which is helpful during any type of emergency. You can also use a limit order to buy or sell a specific amount of an ETF. A limit order means that you’ll buy or sell the ETF at the current price, but only if the price reaches a certain level. If the price doesn’t reach the level, the order will stay open until you cancel it.
– Quick and easy access to cash. If you need to get your money out of a mutual fund quickly, you’ll need to go through a lengthy process to sell your shares. You may even have to pay a fee if you sell your mutual fund shares during a time when the market is very volatile. With ETFs, you can sell your shares whenever you want because they’re bought and sold on the stock exchange.
Read Gold ETF: Pros and Cons of Investing in Gold.
Cons of investing in an ETF
– Higher fees. Some ETFs are very cheap to buy and sell, but some charge higher fees than mutual funds. You should check to see how much each type of fund you’re interested in charges. Fees come out of your investment, so the more fees you pay, the less money you’ll have.
– Limited control over the fund. While you can choose ETFs based on the type of stocks they hold, you don’t have much control over the fund. You can’t change the fund manager, and you’ll get whatever the fund happens to be doing.
Pros of investing in a Mutual Fund
– Higher returns. The average annual return on ETFs is 6.9%, while the average annual return on mutual funds is 7.5%. While this isn’t a drastic difference, it’s something to keep in mind when deciding between these two investments. The higher return can come from the fund’s managers making different trades than an ETF manager would make. Mutual funds are allowed to be riskier than ETFs because they’re actively managed funds.
– More control over the fund. If you’re investing in ETFs that are based on indexes, you won’t have much control over the fund. However, with mutual funds, you can choose the fund you want to invest in. This can be helpful if you’re interested in investing in a specific index, like the healthcare sector.
Cons of investing in a Mutual Fund
– Higher fees. Some mutual funds charge higher management fees than ETFs, but you might be able to find funds that have low management fees. Mutual funds are actively managed, so the fund managers will be buying and selling securities in the fund. The fund managers charge a fee each time they make a trade, so the management fees will be higher than ETFs.
– Limited control over the fund. While you can choose the fund you want to invest in, you don’t have as much control over the fund as you would with an ETF.
Which option is better for you?
There are a lot of similarities between ETFs and mutual funds, and the differences between these two investments are very small. If you’re choosing between these two investments, you can base your decision on which one offers the higher return. However, if you are unsure which one is the best investment for you, you can take advantage of a free evaluation to help you decide which investment is right for you.