ETF vs. Mutual Fund: What’s the Difference? - NerdWallet (2024)

FAQs

ETF vs. Mutual Fund: What’s the Difference? - NerdWallet? ›

The main difference between ETFs and mutual funds is an ETF's price is based on the market price, and is sold only in full shares. Mutual funds, however, are sold based on dollars, so you can specify any dollar amount you'd like to invest.

While they can be actively or passively managed by fund managers, most ETFs are passive investments pegged to the performance of a particular index. Mutual funds come in both active and indexed varieties, but most are actively managed. Active mutual funds are managed by fund managers.

Index investing pioneer Vanguard's S&P 500 Index Fund was the first index mutual fund for individual investors.

ETFs have several advantages for investors considering this vehicle. The 4 most prominent advantages are trading flexibility, portfolio diversification and risk management, lower costs versus like mutual funds, and potential tax benefits.

For instance, some ETFs may come with fees, others might stray from the value of the underlying asset, ETFs are not always optimized for taxes, and of course — like any investment — ETFs also come with risk.

Unlike ETFs, mutual funds can offer more specific strategies as well as blends of strategies. Mutual funds offer the same type of indexed investing options as ETFs but also an array of actively and passively managed options that can be fine-tuned to cater to an investor's needs.

Mutual funds and ETFs may hold stocks, bonds, or commodities. Both can track indexes, but ETFs tend to be more cost-effective and liquid since they trade on exchanges like shares of stock. Mutual funds can offer active management and greater regulatory oversight at a higher cost and only allow transactions once daily.

In general, ETFs can be more risky than mutual funds because they are traded on stock exchanges. Their value can fluctuate throughout the day in response to market conditions. This means that if the market takes a dip, the value of your ETF could drop quickly, and you could experience significant losses.

At least once a year, funds must pass on any net gains they've realized. As a fund shareholder, you could be on the hook for taxes on gains even if you haven't sold any of your shares.

VOO | S&P 500 ETF.

Should I switch my mutual funds to ETFs? ›

If you're paying fees for a fund with a high expense ratio or paying too much in taxes each year because of undesired capital gains distributions, switching to ETFs is likely the right choice. If your current investment is in an indexed mutual fund, you can usually find an ETF that accomplishes the same thing.

Investing in an ETF that tracks a financial services index gives you ownership in a basket of financial stocks versus a single financial company. As the old cliché goes, you do not want to put all your eggs into one basket. An ETF can guard against volatility (up to a point) if some stocks within the ETF fall.

The single biggest risk in ETFs is market risk.

Leveraged ETF prices tend to decay over time, and triple leverage will tend to decay at a faster rate than 2x leverage. As a result, they can tend toward zero.

Liquidation of ETFs is strictly regulated; when an ETF closes, any remaining shareholders will receive a payout based on what they had invested in the ETF. Receiving an ETF payout can be a taxable event.

An ETF with a low risk rating can still lose money. ETFs do not provide any guarantees of future performance. As with any investment, you might not get back the money you invested.

Unlike mutual funds, an ETF trades like a common stock on a stock exchange. ETFs experience price changes throughout the day as they are bought and sold. *ETFs typically have higher daily liquidity and lower fees than mutual fund shares, making them an attractive alternative for individual investors.

FoFs are actively managed funds while ETFs are considered to be passively managed funds. Hence the cost or the expense ratio is higher in the case of FoFs as compared to ETFs.

The only difference is when you invest in ETF, you must have a demat account and you buy or sell in real time during market hours. In case of a ETF FOF, it is AMC to whom you give the money and they will invest in ETFs.

The administrative costs of managing ETFs are commonly lower than those for mutual funds. ETFs keep their administrative and operational expenses down through market-based trading. Because ETFs are bought and sold on the open market, the sale of shares from one investor to another does not affect the fund.