Mutual Fund vs. ETF: Similarities & Differences

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Mutual Fund vs. ETF: Similarities & Differences

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Have you ever wondered where exactly you ought to invest your money? When looking at funds, given that there are several options, you might find yourself having to select between mutual funds vs ETFs (exchange-traded funds). In such a scenario, making a wise, informed decision becomes difficult.  

This article will provide an overview of the ETF vs MF argument. You will then be better positioned to select a fund to invest in, keeping your investor profile and goals in mind. 

A Broad Overview – ETF vs MF

 Let us start addressing this topic by first understanding each of these funds.

Mutual Funds

A mutual fund refers to a group of assets that can be purchased by pooling money with other interested investors. This pooled money is handled by a professional portfolio manager who determines which assets are worth investing in, keeping in mind the overall goals of the fund. The investing strategy employed is published so that all investors and regulatory bodies like the Securities and Exchange Board of India know what is anticipated upon investments being made.

Mutual funds bring with them several benefits ranging from the fact that they are affordable to the fact that they are run by professionals who do all the heavy lifting on your behalf. Further, they help diversify risk. These investments are best suited to the long-term and are buy-and-hold investments.

Exchange-Traded Funds

Exchange-traded funds operate similarly to mutual funds in that they combine money from several investors that are then directed towards assets like bonds and stocks. Although ETFs were only developed recently, their popularity has risen drastically in the past ten years.These funds are traded daily on stock exchanges. That said, they make for an excellent long-term investment. ETFs focus on following the market, and a large chunk of them are index funds. Their portfolios, therefore, imitate the holdings of a specific segment of the commodity, bond or stock markets. 

Similarities between ETFs and Mutual Funds

When considering the common ground that mutual funds and exchange-traded funds share, the following factors become pertinent.

a) For starters, each investment product pools together its investor's money. This is directed towards a collection of assets which range from stocks and bonds to commodities and real estate

b) Next, both of these funds are geared towards individual investors

c) It is possible to invest in each of these funds for an affordable price 

d) Both sets of funds provide investors with access to portfolio diversification

e) Each of these funds is professionally managed by professional portfolio managers

f) It is less risky to invest in each of these funds rather than to invest in individual bonds and stocks

g) Investors are provided with a variety of investment avenues under each of these funds

Exploring ETF and Mutual Fund Differences

The table outlined below shows the differences between exchange-traded funds and mutual funds. Certain mutual funds may impose a penalty if you sell your holdings early. Ordinarily, the time limit imposed amounts to 90 days from the date of purchase. 

Area of Consideration

Exchange-Traded Funds

Mutual Funds 

Date of Conception

Between 1990-1995

1924

Direction

ETFs follow the market

Depends on the type of fund. Some mutual funds seek to beat the market, while some look to mirror the market returns.

Pricing

These prices are similar to stock share prices as they continue to change throughout the day, keeping in mind buying and selling within the market. 

The price of mutual funds is set only once a day once the markets have closed. This value is called the net asset value (or NAV) as it is representative of the accumulated worth of the entire portfolio rather than a single holding alone. 

Volatility

More volatility in comparison to mutual funds.

Less volatile in comparison to exchange-traded funds.

Management Style

Usually, ETFs entail passive investing and follow an index if not another group of assets. That said, actively managed ETFs have recently begun to gain popularity.

Mutual funds are often backed by fund managers and analysts who select investments and seek to deliver returns based on the objectives set. 

Expenses

ETFs are comparatively more affordable than mutual funds as the only expense incurred relates to the commission paid to the broker. 

These funds are more expensive than ETFs as they employ more people, owing to which they charge greater fees to pay their managers and salespeople. 

Common expenses include loads, management fees, account fees, exchange fees, and redemption fees.

Minimums Involved

ETFs don’t impose a minimum investment. In order to invest in this fund, you must pay whatever the price of a single share costs on the exchange at the time. In certain cases, fractional investing in an ETF is also a possibility. 

Ordinarily, mutual funds have a minimum investment requirement.

Efficiency of Sale

ETFs can be sold at any point in time during a trading day. Since they can be bought and sold with ease, timing the buying and selling will matter.

Given that mutual funds are only priced once a day at the end of the end, it is harder to remove your money as fast as you’d like. Sale of mutual funds take longer compared to ETFs.

Taxes Applicable 

Due to the manner of ETF creation and their redemption methods, investors are provided with several tax benefits. 

Mutual funds incur more tax liabilities in comparison to ETFs. 

Transaction Costs

Bid-ask spread is the term used to refer to the cost that arises each time ETFs are traded.

Mutual funds ordinarily have no transaction costs each time their shares are bought or sold. 

Liquidity

ETFs are comparatively more liquid as the funds aren’t connected to their daily trading volume but to the liquidity of stocks featured on the index. 

Mutual funds aren’t as liquid as exchange-traded funds. 

Time Limits Imposed 

There is no time limit. Investors can buy or sell ETF shares at any time during a trading day at the available price. There is no minimum holding period outlined here.

Certain mutual funds may impose a penalty if you sell your holdings early. Ordinarily, the time limit imposed amounts to 90 days from the date of purchase.


Final Thoughts

Although both exchange-traded funds and mutual funds are designed to help individual investors, the former has gained popularity more recently. In fact, they are often thought of as a more affordable alternative to mutual funds. As they charge lower fees and don’t have any minimum investment, ETFs are often painted in a good light. That said, mutual funds provide you with more variety and carry the potential to outperform the market.

Ultimately, your goals, the time frame you are willing to devote to your investment, your threshold for risk, and your investor profile all influence what the ideal investment for you ought to be. The Fi Money app recognises the value of  mutual funds. It encourages you to make investments keeping in mind your type of risk, time frame, and the amount you’re willing to put in. 

Frequently Asked Questions:

Q1. Are ETFs as good as mutual funds? 

A1. Given that ETFs carry with them a greater degree of tax efficiency and are more liquid in comparison to mutual funds, they can't be ignored. They can be thought of as the more affordable version of mutual funds. Their strength, value and whether they surpass mutual funds is dependent on the investor in question and their profile.

Q2. Is it better to invest in the market through a mutual fund or ETF?

A2. Although ETFs have greater levels of tax efficiency and are more liquid, mutual funds shouldn’t be dismissed as they carry the potential to outperform the market. The most appropriate of the two funds depends on the investor’s profile. 

Q3. Do ETFs pay dividends?

A3. When stocks purchased by an ETF pay out a dividend, the money is passed forward to the investor. Most ETFs prefer to pay forward these dividends quarterly on a pro-rate basis, while others pay them monthly. 

Q4. Are ETFs good for long-term investing?

A4. Although ETFs can be bought or sold on any trading day, they make for a good long-term investment. 

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