Are Exchange-Traded Funds for You?
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Are Exchange-Traded Funds for You?
To figure out whether an ETF or fund might be better for your situation, let’s take an example. Say you have $5,000 to invest. You plan to add $50 to the investment every month, and hold this investment for at least 10 years.
Here’s an example to follow
You can enter the following information into an online tool that estimates expenses and returns, so you can identify the best fund for you. The following example uses Morningstar.com’s Cost Analyzer tool.
- Initial investment = $5,000.
- Monthly investment = $50.
- Expected return = 10%.
- Time horizon = 10 years.
- We entered the tickers for ABC 500 Index mutual fund and the SPDRs ETF.
- Check with your broker to determine what transaction fees may apply, but for the sake of this example, we assume there’s no commission to buy the ABC 500 Index, but we had to pay an $8 commission when we bought the SPDR. So we entered $8 under "Commission $" for the SPDR.
- We showed the comparison.
In this case, the calculator indicates a final value of $22,629.25 for the ABC fund, and $21,193.21 for the ETF, due to the extra cost involved with monthly ETF trading commissions, which outweighed the ETF’s expense advantage over the ABC fund in this scenario.
Before making your decision, we recommend changing the inputs to reflect a different time horizon, investment amount, expected return, etc., and see if the results change.
Do ETFs perform better?
This is the ultimate question, isn’t it?
Theoretically, ETFs should perform better than similar mutual funds. Because investors do not buy or sell shares directly from the ETF, ETFs shouldn’t suffer from having to keep cash on hand to meet redemptions, or from being forced to sell stocks into a declining market for the same purpose. But not all index mutual funds and ETFs are created equal.
