Etfs Vs. Mutual Funds

by : Randall Berry

If you are still in mutual funds, listen up. Because if you are a reasonable person, you will want to run to the login screen of your online brokerage and look for proof to what I am about to reveal to you. ETFs offer downside risk protection no mutual fund can match.

It is a difference that could cost you thousands in your investment or retirement portfolio.

Okay, maybe you do not HAVE thousands in your investment accounts. If you are just starting to invest your money, pay particular attention my friend. The following page should make your decision between an ETF (exchange traded fund) and a mutual fund clear enough to make an investment decision or take corrective action if necessary.

Here are some basics.

ETFs and mutual funds are similar in that they both hold baskets of securities. A balanced mutual fund can hold bonds, stocks, T-bills and some cash. An ETF is essentially derived from stocks but takes on many forms.

Before I tell you about the potential mistake that could cost you thousands, here are the important differences between ETFs and mutual funds:

* Mutual funds are actively managed by a person who gets paid by people like us usually from the money that WE give him to manage. ETFs are purchased by us and can be bought and sold all day long with few restrictions and almost no minimums.

* Mutual funds charge 2% or more between loading and maintenance, whereas ETFs typically charge between .5 and 1%. Mutual funds usually have no transaction fee. Brokerage commissions must be paid when purchasing an ETF.

* Mutual funds incur capital gains even though no distribution activity (money back to you) takes place. ETFs usually find a way to avoid these taxable events. This is a significant advantage for an ETF and worse, it is not always clear to the investor how and when it happens.

* Mutual funds mitigate risk by sometimes holding cash in anticipation of a down stock market. ETFs are not actively managed, therefore, YOU the investor and purchaser of the ETF must account for this risk when you decide to buy them. Position sizing is one important consideration with an ETF purchase to manage this particular risk.

Here we go now. The biggest mistake you can make in your decision to allocate to mutual funds or ETFs is to overlook one HUGE advantage an ETF holds over the mutual fund:

* STOP-LOSS order: This is a tool you can employ to nail-down a floor beneath which the price of your ETF cannot fall. You arrange this with your broker or click a button if you are investing with an online brokerage. NO SUCH PROTECTION IS AVAILABLE with a mutual fund. And do not expect your fund manager to point this out.

This tactic can stop the bleeding if things really go wrong with the stock market. Better yet, you can set the stop loss and put it on automatic.

This is proactive management of your money, not merely active.

Whether you are just starting your investment portfolio or are a qualified investor you will want to keep yourself informed about the risks and strategies inherent with each class of personal financial investments. It is now possible to acquire a comprehensive library of knowledge on personal finance in audio format if you know where to look.

Carefully consider the point of view of any financial adviser with whom you seek counsel: Is the person carefully considering your future plans for your job or business before advising you?