Mutual funds vs ETFs
Mutual funds and ETFs both pool money to buy many investments. Here is how they differ in trading, pricing, fees and taxes.
Mutual funds and ETFs are both ways to own many investments at once. Each one pools money from many investors and uses it to buy a basket of stocks, bonds or both. The main differences are in how you buy them, how they are priced and what they cost.
What they have in common
- Pooled money. Many investors share one portfolio.
- Professional management. A fund company runs the fund and follows a stated goal.
- Spreading risk. One fund can hold dozens or thousands of investments, so one bad holding has less effect.
- Choice. Both come in many types, including stock funds, bond funds and balanced funds that hold both.
Both can be index funds, which aim to track a market index, or actively managed funds, where managers pick investments. See index funds vs picking stocks.
How you buy and sell
Mutual funds are bought from and sold back to the fund company, often through a bank, adviser or broker. You place an order during the day, and it is filled once at the end of the day.
ETFs, or exchange-traded funds, trade on a stock exchange like a single stock. You buy and sell them through a brokerage account at any time the market is open. See what an ETF is.
How they are priced
A mutual fund has one price per day, called the net asset value, or NAV. It is the value of everything the fund owns, minus what it owes, divided by the number of units. Everyone who buys or sells that day gets the same price.
An ETF's price changes throughout the day as it trades. It usually stays close to the value of its holdings, but it can drift a little above or below.
Fees
Both charge an ongoing yearly fee to cover management and running costs.
- In the US, this is usually called the expense ratio.
- In Canada, it is usually called the management expense ratio, or MER.
Both are shown as a percentage of your investment, taken out each year. You do not get a bill. The fee is deducted from the fund's value.
Index ETFs often have lower yearly fees than actively managed mutual funds. But fees vary widely in both groups. Some index mutual funds are very cheap, and some ETFs are not.
Other costs to check:
- Trading costs. ETFs may involve a brokerage commission and the spread, which is the gap between the buying and selling price.
- Sales charges. Some mutual funds have charged fees to buy or sell. In Canada, the deferred sales charge option, which charged a fee for selling within a set number of years, has been banned for new purchases.
- Advice fees. Some mutual funds include a fee that pays the adviser who sold them. In Canada, this is called a trailing commission.
Fees compound over time, so small differences can matter a lot. See how compound growth works.
Minimums and automatic investing
Some mutual funds require a minimum first purchase. They usually make it easy to invest a fixed amount automatically on a schedule, including partial units.
ETFs are bought in shares. Many brokers now allow fractional shares and automatic purchases, but not all do.
Both can be used for dollar-cost averaging.
Taxes
In a regular taxable account, funds can pass on taxable gains to investors even if you did not sell anything.
In the US, ETFs often pass on fewer capital gains than mutual funds, because of the way ETF shares are created and redeemed. This is a structural difference, though it varies by fund.
In Canada, the difference is generally smaller, and many Canadian mutual funds and ETFs are taxed in similar ways.
Inside tax-sheltered accounts, such as a TFSA or RRSP in Canada or a 401(k) or IRA in the US, this difference matters much less.
Transparency
Many ETFs publish their holdings every day. Mutual funds usually publish them less often, such as every quarter. Both publish documents that explain their goal, holdings and costs. In Canada, mutual funds and ETFs provide a short summary called a Fund Facts or ETF Facts document.
Side by side
- Trading: mutual funds once a day; ETFs all day on an exchange.
- Price: mutual funds at the daily NAV; ETFs at the market price.
- Where to buy: mutual funds through a fund company, bank, adviser or broker; ETFs through a brokerage account.
- Fees: both have yearly fees; index ETFs are often lower than active mutual funds.
The short version
- Both mutual funds and ETFs pool money to buy many investments.
- Mutual funds trade once a day at one price; ETFs trade all day like stocks.
- Both charge yearly fees, called the expense ratio in the US and MER in Canada.
- In the US, ETFs are often more tax-efficient in taxable accounts.
- Compare the fees and holdings, not just the label.
This is general information, not investment advice.
Updated