01The Tax Benefits
The biggest advantage an ETF has over a mutual fund is the taxation. Due to their construction, ETFs only incur capital gains taxes when you sell the fund. In a mutual fund, capital gain taxes are incurred as the shares within the fund are traded during the life of the investment.
So come April, this can help keep your tax bill low, especially if you've made large gains in your mutual fund portfolio.
02Simplicity of ETFs
With mutual funds, shares in the asset are constantly being traded to hit a target price and seek desired performance. Multiple trades and multiple prices can lead to multiple fees and commissions.
As well as being simplistic investments, ETFs are also more cost-effective than mutual funds. Since shares in a mutual fund actively trade and the fund itself is actively managed, they sometimes rack up large management fees.
Fund managers need to charge for their time and expertise. With an ETF, it’s one simple transaction, like purchasing a stock. This cuts down on fees and commissions. You might have multiple commissions associated with a mutual fund due to its activity and volume, and that can increase your total bill.
With more and more ETFs being released every day, investors have new options to target a specific trading strategy. Commodity ETFs, style ETFs, country ETFs, even inverse ETFs. There are so many types of ETFs for investors, tracking the performance of a certain index or achieving a specific financial goal may be more attainable than with a mutual fund.
Some mutual funds track the same types of assets, but with the popularity of new ETF innovations, you may have even more ETF options in the future as well.
05Transferability of ETFs
Whenever an investor moves a managed portfolio to a different investment firm, complications can arise with mutual funds. Sometimes the fund positions have to be closed out before a transfer can take place. That can be a major headache for investors, being forced to make unwanted or untimely trades that could result in losses.
Liquidating a portfolio’s mutual funds may increase risk, increase commissions and fees, and incur early capital gains taxes.
With an ETF, the transfer is clean and simple when switching investment firms. They are considered a portable investment, which offers a nice advantage.
06So, Who Wins the Battle?
Are ETFs better than mutual funds? There's no set answer to that question since too many factors are involved. However, if you have an ETF vs. mutual fund dilemma, consider the disadvantages of mutual funds, and then consider the advantages ETFs bring to the table.
And as with any investment, a company stock, mutual fund, an ETF, Index or otherwise, thoroughly research any exchange-traded fund or any financial asset before making any trades.
Conduct your due diligence, watch how funds react to different market conditions, and take a look at the assets held in the funds. If you have any questions or concerns, make sure you consult a stockbroker, a financial advisor, or another financial industry professional.
While ETFs have many advantages, they have disadvantages as well, as does any investment. So it is very important to understand the investment vehicle before you trade it.
The Balance does not provide tax, investment, or financial services and advice. The information is being presented without consideration of the investment objectives, risk tolerance or financial circumstances of any specific investor and might not be suitable for all investors. Past performance is not indicative of future results. Investing involves risk including the possible loss of principal.
ETFs Vs. Mutual Funds: The Battle Continues
Mutual funds vs. ETFs, the war wages on. Which makes a better investment? There’s no clear-cut answer, but understanding the risks and benefits of each asset will allow you to pick the best investment to fit your personal investing strategy.
The following five reasons can enlighten you as you consider buying or selling exchange-traded funds or mutual funds. Be aware, though, that while some pros exist to investing in an exchange-traded fund over a mutual fund, some cons exist as well.