ETFs or Mutual Funds - Fidelity (2024)

Neither mutual funds nor ETFs are perfect. Both can offer comprehensive exposure at minimal costs, and can be good tools for investors.

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ETFs or Mutual Funds - Fidelity (1)

Exchange-traded funds (ETFs) and mutual funds are simply structures or vehicles that facilitate access to underlying investments. Enthusiasts refer to ETFs as modernized mutual funds—even calling them mutual funds 2.0. Meanwhile, detractors cite the shortfalls of ETFs and tout mutual funds as king. Cutting through the confusion is really just a matter of understanding the differences, and understanding where each structure makes the most sense.

Let's review the fundamental differences between the 2 structures.

The basics

On one level, both mutual funds and ETFs do the same thing.

Let's imagine, for instance, 2 products that are designed to track the S&P 500: an ETF and a mutual fund. If you look under the hood, both products will hold all (or most) of the 500 stocks in the index, in the exact proportion in which they exist in the index. At this point, the 2 product structures are identical.

The difference of course is that ETFs are "exchange traded." That means you can buy and sell them intraday, like any other stock. By contrast, you can only buy or sell index funds only once per day, after the close of trading. You do this by contacting the mutual fund company directly and telling them you want to acquire or redeem shares.

What does all that mean for investors? Let's take a closer look at ETFs.

ETFs or Mutual Funds - Fidelity (2)

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The positives of ETFs

  • Intraday liquidity: Those fancy words mean you can buy and sell ETFs at any time during the trading day. If the market is falling apart, you can get out at 10 a.m. In a mutual fund, you would have to wait until after the close of trading … which could be a costly delay.
  • Lower costs: Although it's not guaranteed, ETFs often have lower total expense ratios than competing mutual funds, for a simple reason: when you buy shares of a mutual fund directly from the mutual fund company, that company must handle a great deal of paperwork—recording who you are and where you live—and sending you documents. When you buy shares of an ETF, you do so through your brokerage account, and all the recordkeeping is done (and paid for) by your brokerage firm. Less paperwork equals lower costs. Most of the time.
  • Transparency: ETF holdings are generally disclosed on a regular and frequent basis, so investors know what they are investing in and where their money is parked. Mutual funds, by contrast, are required to disclose their holdings only quarterly, with a 30-day lag.
  • Tax efficiency: ETFs are almost always more tax efficient than mutual funds because of how they interact. For more details, see ETFs vs. mutual funds: Tax efficiency.
  • Greater flexibility: Because ETFs are traded like stocks, you can do things with them you can't do with mutual funds, including writing options against them, shorting them, and buying them on margin.

The cons of ETFs

  • Commissions: Over the last few years the majority of trading platforms offer commission-free ETF trading programs, including Fidelity, but always check before you trade.
  • Spreads: In addition to commissions, investors also pay the "spread" when buying or selling ETFs. The spread is the difference between the price you pay to acquire a security and the price at which you can sell it. The larger the spread—and for some ETFs, the spread can be quite large—the larger the cost. There is no way to get around this.
  • Premiums and discounts: When you buy or sell a mutual fund at the end of the day, you always transact exactly at its stated "net asset value" (NAV), so you always get a "fair" price. While mechanisms exist that keep ETF share prices in line with their fair value, those mechanisms are not perfect. At any given moment, an ETF might trade at a premium or at a discount to its NAV. If you buy at a premium and sell at a discount, ouch … you've lost out.
  • General illiquidity: While exchange trading sounds great, not all ETFs are as tradable as you might think. Some trade rarely, or only at wide spreads. These become the financial equivalent of the Hotel California: You can never leave.

Conclusion

Neither mutual funds nor ETFs are perfect. Both can offer comprehensive exposure at minimal costs, and can be good tools for investors.

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. If taxes are your priority, reserve the ultra-tax-efficient ETFs for taxable accounts and use mutual funds in tax-deferred accounts.

It's important to note that this isn't an either/or decision. Mutual funds and ETFs can live perfectly happily side by side in a portfolio .

ETFs or Mutual Funds - Fidelity (2024)

FAQs

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

Key Takeaways. Many mutual funds are actively managed while most ETFs are passive investments that track the performance of a particular index. ETFs can be more tax-efficient than actively managed funds due to their lower turnover and fewer transactions that produce capital gains.

How do I know if I have a mutual fund or ETF? ›

While they can be actively or passively managed by fund managers, most ETFs are passive investments pegged to the performance of a particular index. Mutual funds come in both active and indexed varieties, but most are actively managed. Active mutual funds are managed by fund managers.

Are Fidelity ETFs worth it? ›

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.

Should I have more stocks or ETFs? ›

Stock-picking offers an advantage over exchange-traded funds (ETFs) when there is a wide dispersion of returns from the mean. Exchange-traded funds (ETFs) offer advantages over stocks when the return from stocks in the sector has a narrow dispersion around the mean.

Why would someone choose an ETF over a mutual fund? ›

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. You want niche exposure. Specific ETFs focused on particular industries or commodities can give you exposure to market niches.

Why would you choose ETFs over mutual funds? ›

ETFs offer numerous advantages including diversification, liquidity, and lower expenses compared to many mutual funds. They can also help minimize capital gains taxes. But these benefits can be offset by some downsides that include potentially lower returns with higher intraday volatility.

What is the downside of ETFs? ›

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.

Do ETFs outperform mutual funds? ›

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.

Is S&P 500 a mutual fund or ETF? ›

Index investing pioneer Vanguard's S&P 500 Index Fund was the first index mutual fund for individual investors.

What is Fidelity's best ETF? ›

Overview of the best Fidelity ETFs
  • Fidelity Blue Chip Value ETF. (FBCV) High cap/overall.
  • Fidelity Total Bond ETF. (FBND) Fixed income.
  • Fidelity Low Volatility Factor ETF. (FDLO) Riding out market volatility.
  • Fidelity Clean Energy ETF. (FRNW) The “E” your ESG portfolio.
  • Fidelity Women's Leadership ETF. (FDWM)

Which Fidelity fund has the highest return? ›

Fidelity Blue Chip Growth Fund (FBGRX)

One of Fidelity's top-performing funds, FBGRX is also one of its oldest. Dating back to 1987, FBGRX has managed to outperform the Russell 1000 Growth Index since inception, returning an annualized 12.9% versus 11.5%.

What is the downside to Fidelity? ›

In most situations, you will find what you need at Fidelity. There are a few downsides. Fidelity does not offer cryptocurrency investing. The company is also missing some features found on other investment platforms, like futures trading and paper trading, where you can practice trading.

Should I just put my money in ETF? ›

ETFs can be a great investment for long-term investors and those with shorter-term time horizons. They can be especially valuable to beginning investors. That's because they won't require the time, effort, and experience needed to research individual stocks.

Should I put all my money into ETF? ›

You expose your portfolio to much higher risk with sector ETFs, so you should use them sparingly, but investing 5% to 10% of your total portfolio assets may be appropriate. If you want to be highly conservative, don't use these at all.

Are ETFs good for beginners? ›

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.

Should I switch from mutual funds to ETFs? ›

If you're paying fees for a fund with a high expense ratio or paying too much in taxes each year because of undesired capital gains distributions, switching to ETFs is likely the right choice. If your current investment is in an indexed mutual fund, you can usually find an ETF that accomplishes the same thing.

Are ETFs less risky than mutual funds? ›

Both are less risky than investing in individual stocks & bonds. ETFs and mutual funds both come with built-in diversification. One fund could include tens, hundreds, or even thousands of individual stocks or bonds in a single fund. So if 1 stock or bond is doing poorly, there's a chance that another is doing well.

Are ETFs better for taxes than mutual funds? ›

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.

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