Mutual Funds vs. ETFs

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The Index method

Mutual funds and Exchange traded funds are similar when they try to track the return of an index. ETFs have the advantage that they are freely traded on stock exchanges. [1] The index method enables small investors to obtain very broad diversification with only a small investment. The broad diversification rules out extraordinary losses relative to the whole market as well as extraordinary gains. ^[1] Index funds allow you to reduce brokerage charges. By pooling the moneys of many investors, fees on trades in larger blocks of shares, can be negotiated very low. The index fund collects all of your dividends and can send you a check or plow back returns for continued growth. Index funds are a sensible method of obtaining the market’s rate of return with absolutely no effort and minimal expense. ^[2]

Results

Index-fund buyers are likely to obtain results exceeding those of typical fund manager, whose large advisory fees and substantial portfolio turnover tend to reduce investment yields. ^[3]

Differences

ETFs are designed to mirror the return of particular market or sector index. The shares of ETFs are traded on stock exchanges at market-determined prices. Investors can buy and sell an ETF through a broker just like the shares of any other company. ^[4] A real-time value of the NAV of ETFs is available and traded against to keep share prices close to the NAV during trading sessions. [2]

Mutual funds are required to buy back shares, from shareholders at any time at a price based on the current value of the funds’ net assets. Mutual funds also offer new shares to the public on an ongoing basis. ^[5] Mutual fund buyers pay the NAV of the last few shares traded, less any commissions. Mutual funds buyers can buy any time through out the day but they still pay the NAV calculated on the closing price for the shares. [3] Some institutional buyers may still be able to trade mutual funds after the close at the previous NAVs price.

References

1. ↑ A Random Walk Down Wall Street: The Time-Tested Strategy for Successful Investing by Burton Gordon Malkiel ISBN-10: 0393062457 pg362
2. ↑ A Random Walk Down Wall Street: The Time-Tested Strategy for Successful Investing by Burton Gordon Malkiel ISBN-10: 0393062457 pg363
3. ↑ A Random Walk Down Wall Street: The Time-Tested Strategy for Successful Investing by Burton Gordon Malkiel ISBN-10: 0393062457 pg363
4. ↑ Mutual Funds: An Introduction to the Core Concepts by Dr. Mark Mobius ISBN-10: 0470821434 Chapter 1
5. ↑ Mutual Funds: An Introduction to the Core Concepts by Dr. Mark Mobius ISBN-10: 0470821434 Chapter 1