Episode #9 - The showdown you've been waiting for!
Mutual Funds vs. ETFs - don't worry, I'll leave you wanting more
Intro:
Welcome back to Winnings. We’re now over 100 strong for a few weeks running, so thank you for sticking around and please share these episodes with friends and family with the lovely button below:
As the world oscillates between chaos and uncertainty, I’m hoping that these notes provide some stability. I also do hope that after the long term, reviewing these notes will serve as something that outlasts today’s uncertainty. Then again, I just don’t know. Your loyalty and interest has brought us to a second in the Winnings series: a comparison! (The first was Roth IRA vs. Traditional IRA)
This week, we tackle ETFs and Mutual Funds (clicking on the links will bring you to the episodes that discussed these topics in more depth.
Background:
For starters, Mutual Funds and ETFs don’t exactly compete the way two boxers might. Mutual Funds were first into the fray of financial “products” average citizens could purchase and ETFs arrived on the scene fairly later. Many financial institutions allow you to trade both of these equities and you might even make an argument to hold on to both in your portfolio depending on what you want to accomplish. However, I feel that having a grounded comparison will help you make these decisions as tax day 2.0 comes down the pike and you get a chance to invest.
Items to keep in mind when evaluating your options (thanks again to the folks at Investopedia who do a good job of getting much of this info out there):
Expense Ratio - simply, the cost you pay for the service of either product - mathematically measure of costs as it relates to assets (ER= Total Fund Costs/Total Fund Assets). In 2019, ETF average expense ratio was at .44% and mutual fund expense ratio was between .5 and 1%.
Initial minimums - to invest in an ETF you just pay cost of an ETF share (and you can even get fractional shares), whereas a mutual fund requires a basic investment that can be somewhere between $1,000 and $2,500. This makes the barrier of entry a big higher for a mutual fund as opposed to an ETF.
Automatic investment program - in mutual funds you can basically “set it and forget it,” i.e. on a monthly or weekly basis, once you’ve gotten the first investment off the ground, you can keep putting money into the fund. Because ETFs are only bought the way you’d buy a stock in a singular company, you don’t have the same power of timing/consistency you would enjoy with a mutual fund say in a place like Vanguard.
12B-1 Fee - unique to the mutual fund family of investment products that covers the cost of marketing the fund. It mainly goes to the brokers, but the THEORY was that you (the investor) would pay to get others to join you in your mutual fund so your fees would go down on the whole. The upside of this fee remains to be seen.
Blow by blow:
There are many blows in this fight (see here for Reddit thread that will make you more dizzy than Conor McGregor after fighting Floyd Mayweather).
Mutual funds are a tried and true way to increase your wealth with an active management system that doesn’t involve you. This is likely enticing if you don’t want to understand all that is happening in your portfolio. However, as mentioned in the background, they usually come with a minimum investment. If you’re not at the point of having $1,000 - $2,500 to invest to get things started in a mutual fund, an ETF would likely make a good place for you to start.
If you end up deciding to go with an exchange traded fund, remember they limit you to the index the ETF follows. If it’s the S&P 500, you will perform exactly as well as that index, if it’s the Nasdaq the same applies. You need to be more on top of your diversity if you invest in ETFs and that does put the onus on you to make sure you’re on top of where your money lives and grows.
Takeaway:
So, having someone manage your money for you typically does strike the average person considering investing “wow, that’s extra - my 13 year-old cousin invests with an app.” However, there are certain advantages to having a person to talk to, like literally, you can get in touch with an investment professional who manages your money if you are invested in a mutual fund. You do pay for that service, and it’s likely that a person who does a lot of research should be able to help you balance a mutual fund in a way that an ETF following an index just can’t. With ETFs your portfolio goes the way of that index.
On the one hand, if you go all-in with ETFs it means you must have a number of them so you expose yourself to different types of risk and gain, but with mutual funds you have a bit more flexibility - you don’t need to be in ALL of the mutual funds, you can choose a couple and stick to those.
Interact:
Respond to this email by saying which you’d prefer to invest in: ETF or Mutual Fund.
If you already have invested, share which one you’ve put money into - no need for $ amounts, just that you did it.
Finally, share WHEN you’d like to make that investment. Put something in writing, it will make you more likely to complete it.
Gratitude:
I want to thank Ben S and Craig E for taking some time to speak with me this week about the letter. I’m grateful for your insight and ideas and I hope to incorporate them in the coming episodes of Winnings.