what is an etf?
Exchange Traded Funds
An ETF, or Exchange-Traded Fund, is a fund that owns a basket of securities (stocks, bonds, etc.) just like a mutual fund does. However, it trades like a stock on an exchange (hence the name), in contrast to mutual funds, which only trade once a day at market close. The most popular ETFs own all 500 stocks in the S&P 500 index, but there are thousands of ETFs that own baskets of stocks tracking all kinds of indexes.
The first ETF, launched by State Street as SPY to track the movements of the S&P 500 stock index, came to life on January 23, 1993. 30 short years later, there are now more than 2,600 ETFs in the United States alone, representing close to $7 trillion in assets*. That growth is remarkable when we consider the extent to which many investors still do not fully understand them. But they have some distinct advantages over their mutual fund counterparts that have real short- and long-term benefits for investors.
*Source: Statista and Morningstar; Number of funds as of 12/31/2021; AUM as of 5/31/23.
the details
Portfolio Manager or Index Tracker
But those active managers are worth the higher cost, right?
Portfolio Manager or Index Tracker
The lion's share of mutual funds are actively managed by a team whereas most ETFs track an index. Did you know there are more indexes in the world than there are stocks?
As of 5/31/2023.
The Costs: Mutual Funds vs. ETFs
But those active managers are worth the higher cost, right?
Portfolio Manager or Index Tracker
Perhaps all those active managers are why mutual funds are so much more expensive.
Source: Morningstar and Metric Financial
Large Cap Institutional mutual fund category versus Metric 100-0 portfolio.
As of 6/30/2023.
But those active managers are worth the higher cost, right?
But those active managers are worth the higher cost, right?
But those active managers are worth the higher cost, right?
Not according to Standard & Poor's. Every 6 months, S&P publishes their SPIVA (S&P Index Versus Active Study). It demonstrates that over longer periods, 90% or more of active managers fail to beat a simple market index.
As of 12/31/2022.
Taxes: Mutual Funds vs. ETFs
But those active managers are worth the higher cost, right?
But those active managers are worth the higher cost, right?
ETFs have a structure that allows them to distribute significantly less (if any) capital gains when compared with mutual funds. Particularly in taxable accounts, that has meaningful effects on your returns, both short- and long-term.
Source: Morningstar.
Large Cap Institutional mutual fund category vs. Vanguard S&P 500 ETF.
As of 6/30/2023.
so where are investors putting their money?
ETFs Dominate Mutual Funds in Investor Flows
For the 3 years ended May 31, 2023, $2 trillion dollars flocked to ETFs while $760 billion left mutual funds. That is powerful evidence that investors have gotten the message.
Source: Morningstar