What's the difference between mutual funds and ETF's?

[John Naronha]

[Ignatius Bose]

Before setting out to invest in MF’s or ETF’s, you should be able to recognize the similarities and the fundamental differences between the two and then make a personalized choice based on your investment objective, risk appetite, preferences etc.

Beginning with the similarities,

• Mutual funds and ETF’s are created from pools of money from which investors buy shares.
• Both funds have a stated objective such as growth, value or income.
• Investments can be diversified to include one security or a group of securities/ asset classes.
• Both of them closely track the underlying security or asset class.
• ETF’s have more similarity to passively managed funds since both of them come with low expense ratios.

 

Now, to the differences

• Mutual funds can be actively or passively managed whereas a majority of ETF’s are passively managed.
• Mutual funds can be traded only once a day, i.e. after the market closes, while ETF’s can be traded during market hours just like any other security such as stocks, commodities, currencies and so on.
• Since you can buy/sell in MF’s only at the end of the day, you do not have control over the timing of your entry or exit in the event the security rises/ falls sharply during the day. However, since ETF’s can be traded during market hours, you can capture price movements in real-time.
• Investors in ETF’s can choose order types which are available for exchange traded instruments such as market, limit, stop orders etc. while investors in mutual funds do not have this flexibility.
• The fees or expense ratio in mutual funds is comparatively higher than ETF’s. Typically, even passively managed mutual funds charge higher expense ratios when compared to ETF’s.
• In addition to fees/ expense ratio, investors in ETF’s can be subject to brokerage charges as well. However, mutual funds do not charge brokerage since all the costs are included in the fees.

 

Mutual funds and ETF’s can complement each other if you’re looking to build a diversified portfolio. ETF’s are generally not flexible when it comes to investments, so it would be advisable for an investor who is not very knowledgeable about the markets to go with an actively managed MF even though the costs are higher than ETF’s since the fund is managed by experts rather than taking a chance by investing in ETF’s which closely track the underlying security. If the security performs well, so will your investments, but on the flip side, if the underlying security tanks, your investments too will head south.

[Ignatius Bose]

Before setting out to invest in MF’s or ETF’s, you should be able to recognize the similarities and the fundamental differences between the two and then make a personalized choice based on your investment objective, risk appetite, preferences etc.

Beginning with the similarities,

• Mutual funds and ETF’s are created from pools of money from which investors buy shares.
• Both funds have a stated objective such as growth, value or income.
• Investments can be diversified to include one security or a group of securities/ asset classes.
• Both of them closely track the underlying security or asset class.
• ETF’s have more similarity to passively managed funds since both of them come with low expense ratios.

 

Now, to the differences

• Mutual funds can be actively or passively managed whereas a majority of ETF’s are passively managed.
• Mutual funds can be traded only once a day, i.e. after the market closes, while ETF’s can be traded during market hours just like any other security such as stocks, commodities, currencies and so on.
• Since you can buy/sell in MF’s only at the end of the day, you do not have control over the timing of your entry or exit in the event the security rises/ falls sharply during the day. However, since ETF’s can be traded during market hours, you can capture price movements in real-time.
• Investors in ETF’s can choose order types which are available for exchange traded instruments such as market, limit, stop orders etc. while investors in mutual funds do not have this flexibility.
• The fees or expense ratio in mutual funds is comparatively higher than ETF’s. Typically, even passively managed mutual funds charge higher expense ratios when compared to ETF’s.
• In addition to fees/ expense ratio, investors in ETF’s can be subject to brokerage charges as well. However, mutual funds do not charge brokerage since all the costs are included in the fees.

 

Mutual funds and ETF’s can complement each other if you’re looking to build a diversified portfolio. ETF’s are generally not flexible when it comes to investments, so it would be advisable for an investor who is not very knowledgeable about the markets to go with an actively managed MF even though the costs are higher than ETF’s since the fund is managed by experts rather than taking a chance by investing in ETF’s which closely track the underlying security. If the security performs well, so will your investments, but on the flip side, if the underlying security tanks, your investments too will head south.