September 14, 2017

Mutual Funds vs. Exchange Traded Funds?

With more than 10,000 publicly-traded mutual funds and more than 6,000 exchange traded index funds (ETFs), our choices as investors have never been greater. From traditional benchmark index funds like the S&P 500 to sector-specific funds that track individual industries like solar and infrastructure, the abundance of options can make the process of investing feel a bit overwhelming.

What are mutual funds and ETFs, and what mix of investments is right for you?

Actively-managed mutual funds have been around since the 1920s. They were designed to give investors a diversified approach to owning a collection of stocks—with the overall objective of outperforming a specified benchmark. Historically, however, only a small percentage of mutual funds actually outperform the established benchmark. Additionally, the expenses related to owning mutual funds, such as trading costs and sales charges, are relatively high, which can hinder the overall performance of mutual funds.

Like mutual funds, ETFs allow investors to own a basket of securities. They first appeared in the 1990s as a competitive alternative to mutual funds, with the added benefit of intra-day pricing, just like stocks. Mutual funds are only priced once a day after the market has closed. With ETFs, investors can now get quotes during normal market hours, allowing them to buy and sell throughout the day, providing greater flexibility on market entry and exit. ETFs also offer daily disclosure of portfolio holdings, while mutual funds generally release fund holdings to shareholders on a monthly or quarterly basis. And this is all done at a fraction of the cost of a mutual fund, as the expenses on even the largest ETFs can be as low as a few basis points (not including commission charges).

Additionally, ETFs may offer tax advantages for investors with non-qualified accounts like IRAs and 401(k)s.

While ETFs have become a formidable competitor for investment dollars, the mutual fund industry has made significant changes to their business model in an effort to retain investor confidence and assets. Most notably has been the dramatic cut in the fee structure of mutual funds. Mutual fund companies have not only done away with expensive sales loads (called the public offering price), many have also dramatically cut their expense ratios over the past five years.

Mutual funds may also be a better option for investors who do not wish to be actively engaged in the market and would prefer instead to make periodic contributions to a fund company. Furthermore, many market professionals believe mutual funds offer a safer alternative to ETFs, as periodic investing and dollar-cost averaging can insulate investors from poor psychological trading decisions that are often made based on the whims of the market.

So, which investment option is right for you? The good news is that investors now have access to a wide variety of low-cost and easy-to-access mutual and exchange traded funds. In fact, some employers are now giving participants in tax-deferred accounts like 401(k)s access to both mutual funds and ETFs, allowing their employees to take advantage of both passive and active management strategies.

Western Growers Financial Services can help you build an investment strategy that matches your risk tolerance and retirement goals. For more information on mutual funds and ETFs, or to explore the services offered by Western Growers Financial Services, contact Matt Lewis at [email protected] or (949) 885-2379.