ETFs vs Mutual Funds (2024)

Table of Contents

Want to learn more? ETF or mutual fund? Which is right for you? Consider an ETF, if: Consider an index mutual fund, if: Consider an actively managed mutual fund, if: ETFs and mutual funds, at a glance: ETFs and mutual funds, at a glance: Want to learn more about ETFs and Mutual Funds? Need help understanding your ETF options? FAQs References

Mutual funds can be purchased without trading commissions, but in addition to operating expenses they may carry other fees (for example, sales loads or early redemption fees.

What about tax efficiency?

ETFs

ETFs often generate fewer capital gains for investors since they may have lower turnover and can use the in-kind creation/redemption process to manage the cost basis of their holdings.

Mutual Funds

A sale of securities within a mutual fund may trigger capital gains for shareholders—even for those who may have an unrealized loss on the overall mutual fund investment.

Want to learn more?

How to choose ETFs vs. Mutual Funds

ETF or mutual fund? Which is right for you?

That all depends on your goals and the type of investor you are.

Consider an ETF, if:

You trade actively

Intraday trades, stop orders, limit orders, options, and short selling—all are possible with ETFs, but not with mutual funds.
You're tax sensitive

ETFs and index mutual funds tend to be generally more tax efficient than actively managed funds.
And, in general, ETFs tend to be more tax efficient than index mutual funds.

Consider an index mutual fund, if:

You invest frequently

If you make regular deposits—for example, you use dollar-cost averaging—a no-load index mutual fund can be a cost-effective option, and it allows you to fully invest the same dollar amount each time (since mutual funds can be purchased in fractional shares).
Similar ETFs are thinly traded

When you buy or sell ETF shares, the price may be less than the net asset value (or, NAV) of the ETF. This discrepancy (aka: the "bid/ask spread") is often nominal, but for less actively traded ETFs, that might not always be the case.
By contrast, mutual funds always trade at NAV, without any bid/ask spreads.

Consider an actively managed mutual fund, if:

You're looking for a fund that could potentially beat the market

People invest in actively managed mutual funds in hopes they'll surpass their benchmarks.
See Also
How to Invest in ETFs (Exchange-Traded Funds) | The Motley Fool Canadian ETFs: The Easy Way to Invest Up North The 10 Cheapest Vanguard ETFs Setting savings and investment goals
Also, actively managed funds acquired as part of a specific strategy may complement index funds in a portfolio, and help to reduce downside risk and mitigate market volatility.
You're investing in a less efficient market

Some markets are "highly efficient"—which means they’re so popular, there isn't much opportunity to add any real value via active portfolio management.
But in less efficient markets–like high-yield bondsoremerging markets–there may be greater opportunities through active portfolio management.

ETFs and mutual funds, at a glance:

ETFs and mutual funds at a glance

>
Passive ETFs

Passive ETFs
>
Active ETFs

Active ETFs
>
Index Mutual Funds Tooltip

Index Mutual Funds Tooltip

>
Actively Managed Mutual Funds Tooltip

Actively Managed Mutual Funds Tooltip
>
- Expense Ratio (OER) Tooltip
  >
- Passive ETFs
  
  Generally lower than actively managed mutual funds.
  >
- Active ETFs
  
  Generally higher than passive ETFs; on par with a mutual fund’s institutional share class.
  >
- Index Mutual Funds Tooltip
  
  Generally lower than actively managed mutual funds.
  >
- Actively Managed Mutual Funds Tooltip
  
  Generally higher than passively managed, index-tracking funds
  >
  - Performance
    >
  - Passive ETFs
    
    Performance generally seeks to track a benchmark index
    >
  - Active ETFs
    
    Performance seeks to outperform a benchmark index.
    >
    See Also
    Best ETFs In Canada - Building Wealth Via ETF Investing » Tawcan
  - Index Mutual Funds Tooltip
    
    Performance seeks to track a benchmark index.
    >
  - Actively Managed Mutual Funds Tooltip
    
    Performance seeks to outperform a benchmark index.
    >
    
    Selection of Funds
    >
    
    Passive ETFs
    
    About 2,000
    >
    
    Active ETFs
    
    Over 700 actively managed ETFs and over 45 active semi-transparent ETFs
    >
    
    Index Mutual Funds Tooltip
    
    About 500*
    >
    
    Actively Managed Mutual Funds Tooltip
    
    About 7,000*
    >
    
    Trading
    >
    
    Passive ETFs
    
    Intraday
    >
    
    Active ETFs
    
    Intraday
    >
    
    Index Mutual Funds Tooltip
    
    End of Day
    >
    
    Actively Managed Mutual Funds Tooltip
    
    End of Day
    >
    
    Price
    >
    
    Passive ETFs
    
    Market price Tooltip
    >
    
    Active ETFs
    
    Market price Tooltip
    >
    
    Index Mutual Funds Tooltip
    
    NAV (Net Asset Value) Tooltip
    >
    
    Actively Managed Mutual Funds Tooltip
    
    NAV (Net Asset Value) Tooltip
    >
    
    Potential Tax Efficiency Tooltip
    >
    
    Passive ETFs
    
    Most efficient
    >
    
    Active ETFs
    
    Efficient
    >
    
    Index Mutual Funds Tooltip
    
    Efficient
    >
    
    Actively Managed Mutual Funds Tooltip
    
    Less efficient
    >
    
    Holdings Transparency
    >
    
    Passive ETFs
    
    Holdings generally reported daily
    >
    
    Active ETFs
    
    Active semi-transparent ETFs generally report full holdings on a monthly or quarterly basis, whereas actively managed ETFs will report holdings daily
    >
    
    Index Mutual Funds Tooltip
    
    Holdings generally reported monthly or quarterly
    >
    
    Actively Managed Mutual Funds Tooltip
    
    Holdings generally reported monthly or quarterly
    >
    
    *Oldest share classes of funds available in the U.S. as reported by Morningstar Direct, December 2021
    
    Want to learn more about ETFs and Mutual Funds?
    
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    Types of ETFs
    
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FAQs

The choice comes down to what you value most. If you prefer the flexibility of trading intraday and favor lower expense ratios in most instances, go with ETFs. If you worry about the impact of commissions and spreads, go with mutual funds.

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.

An index fund is a type of mutual fund that tracks a particular market index: the S&P 500, Russell 2000, or MSCI EAFE (hence the name). Because there's no original strategy, not much active management is required and so index funds have a lower cost structure than typical mutual funds.

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.

ETFs usually have to disclose their holdings, so investors are rarely left in the dark about what they hold. This transparency can help you react to changes in holdings. Mutual funds typically disclose their holdings less frequently, making it more difficult for investors to gauge precisely what is in their portfolios.

ETFs can offer lower operating costs than traditional open-end funds, flexible trading, greater transparency, and better tax efficiency in taxable accounts. As with all investment choices there are elements to review when making an investment decision.

Market risk

The single biggest risk in ETFs is market risk. Like a mutual fund or a closed-end fund, ETFs are only an investment vehicle—a wrapper for their underlying investment. So if you buy an S&P 500 ETF and the S&P 500 goes down 50%, nothing about how cheap, tax efficient, or transparent an ETF is will help you.

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.

All investments have a risk rating ranging from low to high. 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.

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.

In many ways mutual funds and ETFs do the same thing, so the better long-term choice depends a lot on what the fund is actually invested in (the types of stocks and bonds, for example). For instance, mutual funds and ETFs based on the S&P 500 index are largely going to perform the same for you.

An exchange-traded fund (ETF) includes a basket of securities and trades on an exchange. If the stocks owned by the fund pay dividends, the money is passed along to the investor. Most ETFs pay these dividends quarterly on a pro-rata basis, where payments are based on the number of shares the investor owns.

ETFs don't often have large fees that are associated with some mutual funds. But because ETFs are traded like stocks, you may pay a commission to buy and sell them, although there are commission-free ETFs in the market. To be fair, mutual funds do offer a low cost alternative: the no-load fund.

Liquidity Risk

Not all ETFs have a large asset base or high trading volume. If you find yourself in a fund that has a large bid-ask spread and low volume you could run into problems with selling your shares. That pricing inefficiency could cost you more money and greater losses.

Although ETFs usually have lower expense ratios compared to traditional mutual funds, their costs are slightly higher than those of index funds due to additional trading expenses.

The low investment threshold for most ETFs makes it easy for a beginner to implement a basic asset allocation strategy that matches their investment time horizon and risk tolerance. For example, young investors might be 100% invested in equity ETFs when they are in their 20s.

ETFs are generally considered more tax-efficient than mutual funds, owing to the fact that they typically have fewer capital gains distributions. However, they still have tax implications you must consider, both when creating your portfolio as well as when timing the sale of an ETF you hold.

Although similar to mutual funds, equity ETFs are generally more tax-efficient because they tend not to distribute a lot of capital gains.

ETFs vs Mutual Funds (2024)

Want to learn more?

ETF or mutual fund? Which is right for you?

Consider an ETF, if:

Consider an index mutual fund, if:

Consider an actively managed mutual fund, if:

ETFs and mutual funds, at a glance:

ETFs and mutual funds, at a glance:

Need help understanding your ETF options?

FAQs

Is it better to invest in ETFs or mutual funds? ›

Do ETFs outperform mutual funds? ›

References