ETF vs Index Funds

[JDARNELL]

With the second son graduating from college in a couple of weeks and starting a full time federal job we are now focusing on setting up where to put his excess funds. No debt, emergency fund is fully funded and TSP is set up. HSA will be used beginning in 2024.

So the extra cash is the question. Should I have him use ETFs or Index funds? I grew up in the generation of Index funds and only know what I have read on ETFs. Seems like Potatoes Potatos



JDARNELL

 

[GenXguy]

With the second son graduating from college in a couple of weeks and starting a full time federal job we are now focusing on setting up where to put his excess funds. No debt, emergency fund is fully funded and TSP is set up. HSA will be used beginning in 2024.

So the extra cash is the question. Should I have him use ETFs or Index funds? I grew up in the generation of Index funds and only know what I have read on ETFs. Seems like Potatoes Potatos

JDARNELL

Many ETF funds "are" Index funds. They are not mutually exclusive.

 

[disneysteve]

Your question is ETF or mutual fund, not ETF or index fund. As GenXguy pointed out, there are plenty of ETF index funds.


Vanguard has a good comparison page: https://investor.vanguard.com/investor-resources-education/etfs/etf-vs-mutual-fund


Like you, I came up in the age of mutual funds but if I was starting now, I'd go with ETFs, and I have added a few ETFs to our portfolio in recent years.

 

[disneysteve]

I just noticed that the Vanguard link I gave doesn't mention taxes. Generally speaking, ETFs are more tax-efficient than mutual funds so that's a plus for them, too.

 

[OldShooter]

ETFs are mutual funds, just with slightly different features.

 

[audreyh1]

I just noticed that the Vanguard link I gave doesn't mention taxes. Generally speaking, ETFs are more tax-efficient than mutual funds so that's a plus for them, too.

The Vanguard index ETFs and index mutual funds are the same tax efficiency wise.

 

[JDARNELL]

Thanks. Yes even in an ETF it would be an index option. Seems like ETFs are more tax efficient so that probably makes sense.

 

[NW-Bound]

Nowadays, when I buy index funds, I buy ETFs rather than MFs.

With ETFs, I can buy during the day, and not wait to see what price I get at market close. In the long run, it may just average out, because the market may continue to go up or down from when I buy to when the market closes. I just don't want to have another unknown.

Secondly, with ETFs, I can sell OTM covered calls as a lark to pick up a bit extra cash when I think the market is too hot.

Example: I hold about 3% of portfolio in the boring utility ETFs XLU and VPU. My records show that over the last 3 years, I picked up more than 6% in "extra dividends" from OTM covered calls premium (6% of the ETFs values, not 6% of total portfolio). Did not make me rich, but did not take that much work either. And these ETFs are the ones I don't do options on very much, due to their low volatility compared to the rest of the market.

 

[OldShooter]

VTSAX or VTWAX, depending on his taste for international investing. There are ETF versions of these, too.

https://investor.vanguard.com/inves...g-investment-types/why-invest-internationally

FWIW, about 95% of our equity position is in VTWAX.

Also, good reading: "If You Can" by William Bernstein https://www.etf.com/docs/IfYouCan.pdf (free 16 page download)

 

[oldtimer]

If the account allows purchase of fractional shares, double check they do allow automatic investment by dollar amount. That was the negative of ETF at Vanguard last time I check - no auto investment into ETF.

 

[audreyh1]

Just so people are educated in terms of Vanguard mutual funds being just as tax efficient as their corresponding ETF.

How Vanguard Patented a Sytem to Avoid Taxes in Mutual Funds: https://www.investopedia.com/how-vanguard-patented-a-system-to-avoid-taxes-in-mutual-funds-4686985

 

[COcheesehead]

There are ETFs, mutual funds, index ETFs and also index mutual funds. ETFs trade intra day. Mutual funds do not.

 

[tmm99]

I like ETFs because sell/buy transactions are practically instantaneous while with MFs, you have to wait until the end of the day to update.

 

[DrRoy]

I like ETFs because sell/buy transactions are practically instantaneous while with MFs, you have to wait until the end of the day to update.

+1, Index ETF's.

 

[mrfeh]

I like ETFs because sell/buy transactions are practically instantaneous while with MFs, you have to wait until the end of the day to update.

Pros and cons to this...with ETF you need to be aware of the bid/ask spread, unless you are willing to place a market order.

 

[RetireBy90]

For me the question is ETF or not. With an ETF you can buy or sell anytime throughout the day like any other stock. With non-ETF funds you buy and sell at closing price. I have both in our portfolio. I don't think for your son just starting to invest it is a significant difference esp if using an IRA. Only problem I've had is when trying to move from our TIRA to Roth. I'm with Fido I move shares not dollars and sometimes the dollar value of shares can change a bit from when I submit the transfer to when it happens at market closing prices.

 

[VanWinkle]

I own all mutual funds and no ETFs. For the mental side of owning investments, it helps me to know I can't try to buy and sell during the day. I am a long term investor who finds it calming to know that my mutual fund prices once a day. ETFs in the wrong hands can be a negative to good investment practices.

VW

 

[tmm99]

And oh, another thing. I could transfer my ETFs to my Canada account when I moved to Canda, but I can't do the same thing to MFs. I would have to sell MFs to move the money. Maybe it doesn't matter, but it's something to be aware of.

 

[Al18]

Many mutual funds pay capital gains, while most ETF do not. So if you own mutual funds in an after tax brokerage account, you may get a capital gain which may be taxable based on you capital gain tax bracket

 

[COcheesehead]

Many mutual funds pay capital gains, while most ETF do not. So if you own mutual funds in an after tax brokerage account, you may get a capital gain which may be taxable based on you capital gain tax bracket

Careful with this generalization. It really depends on the type of investments it holds and whether or not it follows an index. Not all ETFs are index based and not all mutual funds pay distributions.

 

[OldShooter]

I own all mutual funds and no ETFs. For the mental side of owning investments, it helps me to know I can't try to buy and sell during the day. I am a long term investor who finds it calming to know that my mutual fund prices once a day. ETFs in the wrong hands can be a negative to good investment practices.

VW

There is wisdom here. I believe that ETFs were created for the brokerage industry specifically to encourage trading and churning. For the majority here who profess to be long term investors, the ability to trade ETFs during the day should be a complete don't care. Other than dividend reinvestment, we haven't bought or sold a mutual fund for well over a year and those trades had nothing to do with investment strategy. They were trades to simplify our AA, now down to basically one equity fund.

 

[audreyh1]

Personally I don’t care for bid, ask, limit orders, or spreads, and on a few really crazy market days when things swing wildly, access can be an issue as well as price deviation from underlying assets (not to mention the occasional flash-crash). I only make portfolio MF changes about once a year, so day close pricing is just fine with me as I’m holding most of it indefinitely.

 

[HI Bill]

I like ETFs over MFs as they can be traded intra-day. Too many times in the past (most of them for me), when I've done AA rebalancing, or taken distributions for spending, my MF sell orders were placed near the 'top of the market', but in the hours and days before they settle, they have lost value (many days see sell-offs at the end of the day, when MF sales settle). I switched all of my MFs to ETFs. Wouldn't have it any other way!

 

[tulak]

I own both and have a slight preference towards funds. Mostly because they trade at NAV (end of day pricing) and no issues with fractional shares. Even though the latter is less of an issue at some brokerages (Fidelity and Vanguard that I know of). But I always seem to have a penny or two left over with ETFs, which I find mildly annoying.

 

[OldShooter]

I like ETFs over MFs as they can be traded intra-day. Too many times in the past (most of them for me), when I've done AA rebalancing, or taken distributions for spending, my MF sell orders were placed near the 'top of the market', but in the hours and days before they settle, they have lost value (many days see sell-offs at the end of the day, when MF sales settle). ... !

No way to know, but the behavioral psychologists like Richard Thaler and Daniel Kahneman tell us that as a species we are significantly more sensitive to losses than to gains -- so it may just be that you remember the losses and it just feels like it's "most of them." Personally I couldn' t even guess whether I have come out net ahead or behind on MF trades. I just don't pay attention to it. Whatever the number is, it's a trivial fraction of the portfolio.