Much of the debate in today’s world is going on weather it is good idea to invest in ETF or in a mutual fund. As an investor you should be mindful what you want to invest in and pros and cons of ETF’s and mutual funds.
ETF
Exchange trades funds are very common investments vehicles and often track the indexes. Most common index in the world is S&P 500 which has large corporations of united states of America. For example, if we have an ETF that tracks the performance of S&P 500 the returns on your investment will be in line with the returns of S&P 500. For example, VANGUARD S&P 500 ETF V00.
Let’s us see the features of this ETF.
MER – 0.03%
Inception Date – Sept 7, 2010.
Annual rate of return – 15.47%
Mutual Funds
Mutual funds are often criticized of their high fees and MER’s. In fact, an active fund manager will obviously charge fees and if this fee justifies the return, it is not a bad idea to invest in an actively managed mutual fund. Going by the above example let us consider FIDELITY CONTRA FUND which tries to beat S&P 500 performance. Let us see the features of this fund.
MER – 0.86%
Inception Date – May 05, 1967
Annual rate of return since 2010 – 17.67%
It is obvious that higher MER does not necessarily mean that investor will get a lesser return. If the fund manager is active and equity selection is good an investor has a good chance to get a better return than ETF.
Points to consider
- 100% of passive ETFS underperformed their benchmarkover every time (1 yr., 3yr, 5 yr., and 10yr) and will continue to do so in the future. They must, because all they do is track an index,less their fee to do so.
- This is the clever trick that supporters of ETFs make – comparing mutual funds to the index rather than to the actual ETF. And not making the same comparison of the ETF to the index.
- Mutual fund fees include the cost of advice, whereETFs do not. The comparison of ETFs to mutual funds does not include the cost of purchasing and owning the ETF, and what it would cost to have the proper advice and financial planning to make sure a portfolio is designed to get the investor to where they need to go.
- The value of financial advice has been proven in multiple studies, including Fidelity’s most recent retirement survey where71% of retirees WITH an advisorsaid that theyhad the retirement they were hoping for. In comparison47% of retirees who do it themselves WITHOUT an advisorsaid that theydo NOT have the retirement they are hoping for.
- Including a similar cost of advice in an ETF, you would have to subtract a 1%+HST = 1.13% fee-based fee from the performance of the ETF. For example, if an ETF has a 0.30% fee (including HST), then the total all in cost, including the cost of advice is 1.43%. The result is theETF underperforming its benchmark by 1.43% per year(not including compounding). That is a dramatic underperformance to the benchmark.
- Another way to do apples-to-apples comparison is to compare the do-it-yourself ETF to the F-series version of a fund, as F-series has the cost of advice stripped out.
- The decision to own mutual funds is simple. The argument for ETFs only makes sense to less sophisticated investors.
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