Many of you have seen us transition some of your investments from mutual funds to exchange traded funds (ETFs). An ETF is similar to a mutual fund in the fact that both securities include baskets of individual stocks. The main difference is that ETFs are bought and sold on the stock exchange just like a stock throughout the trading day, where mutual funds trade only at the end of each trading day. The ETFs that we use in your account give us the advantage of investing in a certain part of the market at a very low cost compared to an actively managed mutual fund. ETFs mirror an index such as the S&P 500.
Because they track the index instead of having an active manager directing the stocks to buy, the ETF operates at a lower cost which is passed on to you, the investor. Typically, the cost difference between a mutual fund and an ETF can be .50% to .75%. Lower costs mean more of your money stays working for you because it stays in your account.
What about performance? Shouldn’t an active manager be able to beat the index? In some parts of the market the answer is yes. For most of the core positions like large cap growth or value, the market is highly efficient and mutual funds have a hard time beating the index. Morningstar has compared the difference between actively managed mutual funds and ETFs for core positions and found that ETFs out-perform 81% of active managers in one year. If you extend that time out to 5 years, ETFs out-perform 88% of active managers. With those statistics in mind, over the last two years, we’ve decided and added ETFs to our various portfolios. We will continue to use mutual funds in certain specialty areas where active managers have proven to be worth the extra cost.
Overall this gives you similar performance at a lower cost and should lead to better long term results for your accounts. If you have more questions about ETFs please contact your Financial Advisor/Planner.