Which is better - An ETF or Mutual Fund?
What’s the difference between ETFs and Mutual Funds?
New investors often get confused about the difference between ETFs and Mutual Funds, so I'm going to quickly explain the difference between them so that you can make a better investment decision based on your personal preference and investing goals.
To start, both ETFs and Mutual Funds are very similar.
They can both be used to invest in Index Funds (Passive Funds) or Actively Managed Funds.
What are ETFs?
ETFs are funds that are traded just like stocks. The best way to think of an ETF is a stock with a bunch of other stocks combined into it. The best part about ETFs is that there is no minimum investment requirement to invest in these funds, unlike Mutual Funds.
As long as you can afford whatever the current share price is, you can invest in an ETF.
What are Mutual Funds?
Mutual Funds, on the other hand, are similar to ETFs but operate a little bit differently. Mutual Funds are made up of a pool of money collected from a bunch of investors to invest in certain stocks.
You can think of a Mutual Fund as investing in a business that buys a bunch of other businesses on behalf of everybody who has ownership in it.
Most mutual funds will have a minimum investment amount, usually ranging from $500 - $5000.
Additionally, you invest in Mutual Funds by DOLLAR AMOUNT, not by shares like ETFs.
Unlike stocks or ETFs, Mutual Funds only trade ONCE per day at the price set at the end of each trading day.
So if you enter a trade to buy or sell an investment into a mutual fund, your trade will be executed at the next available value, which is calculated after the market closes.
What are the differences between an Index Fund and an Actively Managed Fund?
Both ETFs and Mutual Funds can be either an Index Fund OR an Actively Managed Fund.
You can think of ETFs and Mutual Funds as the vehicle. Index Funds or Actively Managed Funds are what go INSIDE those vehicles.
Index Funds (Passive Funds)
Index Funds are considered passive funds, where the fund seeks to replicate the returns of a certain index.
It’s not actively traded by a fund manager like an Actively Managed Fund is.
So it’s a hands-off approach. Hence the passive part.
Because these funds are passive, they usually have much lower fees compared to Actively Traded Funds.
ETF Index Fund Example: $VOO
Mutual Fund Index Fund Example: $VFIAX
Actively Managed Funds
Actively Managed Funds are funds that are actively managed by a fund manager. Think Cathie Wood. Cathie Wood is the fund manager of the ARKK funds. Cathie and her team buy and sell stocks based on their analysis on behalf of the investors who buy into their fund.
These funds typically have much higher fees as the fund manager will typically want to be paid for their expertise.
Actively Managed ETF Example: $ARKK
Actively Managed Mutual Fund Example: $FDGRX
Final Thoughts: ETF vs Mutual Fund
Both ETFs and Mutual Funds can be either Index Fund OR Actively Managed Fund.
The main separation between ETFs and Mutual Funds is that an ETF can be traded throughout the day, just like a stock, whereas Mutual Funds can only be bought and sold for the price set at the end of each trading day.
I personally prefer ETFs as they don’t require any investment minimum and are easier for most people to understand since they trade just like stocks do.
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As Always: Buy things that pay you to own them.
-Josh
Blog Post: #010
