Why Many Investors Prefer ETFs Over Conventional Mutual Funds
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ETF stands for exchange-traded fund, which are index funds that trade similar to stocks. As such, ETFs have all of the profit of simple previous index funds with some extra punch. The ETFs’ charges are often — but not always — lower than conventional mutual funds, and they may charge you less in taxes.
Exchange-traded funds started trading more than decades ago, but recently they have been gaining popularity as compared to more mature mutual funds options.
An ETF’s fundamental net asset value is weighed by taking the present value of the fund’s net assets (all securities value inside minus liabilities) divided by the sum of total shares outstanding. The net asset value, or NAV, is printed every 15 seconds all through the trading day. But the NAV of ETF isn’t essentially its market price.
When you buy shares of a conventional mutual fund, the NAV serves much similar to a stock price — it’s the cost at which shares are purchased or sold from the fund company. At a conventional fund, the net asset value is fixed at the last time of each trading day.
As noted, ETFs work quite differently. Since ETFs trade similar to a stock, you purchase and sell shares on an exchange at a cost determined by supply and demand. That’s why an ETF’s market cost can vary from its NAV. The way exchange-traded fund shares are structured helps keep the space between those two figures quite tight.
Here Tamir Zoltovski (CEO of Moneta International UAB) shares some of the important reasons why investors like ETFs:
Diversification:
Similar to index funds, ETFs offer a competent way to invest in a precise part of the stock or bond market (say, small-cap stocks, energy or rising markets), or the complete shebang.
Costs:
Many good exchange-traded funds have very low fees as compare to the conventional mutual funds.
Taxes:
ETFs are giant winners at tax time. As with several index funds, the manager of the exchange-traded funds doesn’t need to repeatedly purchase and sell stocks unless a part of the underlying index, which the ETF is trying to track has changed. (This can occur if companies have combined, gone out of business or if their stocks have shifted radically). And given the exceptional way ETFs are structured, they’re usually more tax-efficient than conventional index mutual funds.
Open Book: ETFs vs conventional mutual funds
Again, since they follow an index, you usually recognize precisely what’s inside an ETF. With conventional mutual funds, holdings are generally revealed with a long holdup and only occasionally all over the year (mutual funds, which track a particular index are the exception here).
Ease of use: Conventional mutual funds vs ETFs
ETFs may purchase or sold at any time during the day, just similar to stocks. Mutual funds, in contrast, are valued only once at the end of each trading day. For long-term investment, this doesn’t matter. It is good to know, however, that you can generally evade an ETF at any time during the trading day.
There is a little catch. Since ETFs trade similar to stocks, buyers have to a brokerage commission every time they purchase or sell shares. (Online brokerage charges vary, usually depends on the broker.) Those charges add up rapidly, especially if you are purchasing more shares each month. ETFs are beneficial for lump-sum investors, but you should use a conventional index fund if you are purchasing a little bit at a time.
Note: This article was originally posted to ValueWalk.com by Jacob Wolinsky.
Category: ETFs, Mutual Funds
