Mutual funds have enjoyed a prominent place at the investment table since 1924, continuing to receive preferential treatment today. In many cases, particularly in the 401K and pension fund world of investing, mutual funds are the investment vehicle of choice. But are their days of glory behind us? Are mutual funds now becoming obsolete?
Mutual Funds aren’t becoming obsolete. They remain one of the best choices for long-term investors, and complement rather than giving their place to ETFs. They have more active management options, variety, and customer support than ETF. Still, it’s all up to you to decide between the two options.
This article will explain why some argue that mutual funds are obsolete and discuss the difference between mutual funds and ETFs. It’ll then tell you which option is best and why the ETFs might make mutual funds seem out-of-date to some.
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Table of Contents
Why Do Some Argue That Mutual Funds Are Obsolete?
Some people believe mutual funds are obsolete because ETFs are easier to trade. Others believe mutual funds are obsolete because risk tolerance has changed for many people.
For example, a sixty-three-year-old woman who’s investing is assumed to have a lower risk tolerance than a thirty-year-old due simply to her age. However, this idea doesn’t hold true in all cases. Time left to invest is part of what has changed.
People live longer, and their money has to go farther, but they also have longer to invest than they did just thirty years ago. Therefore, many advise investors to take risks with ETFs because they offer the same diversification—often with lower costs.
A more practical reason that people say mutual funds are obsolete is that ETFs look, sound, and act like mutual funds. But you can trade them throughout the day on the open market. This trading ability makes them more liquid and often more profitable in the short term.
What Is the Difference Between Mutual Funds and ETFs?
Understanding the differences between ETFs and mutual funds will show you that mutual funds aren’t obsolete. It can also help you determine which one is right for you. Even though both these options have subtle differences, they are both great options to choose from. After all, diversification is the safest method of investing.
ETFs are certainly fashionable today and are finally gaining investor confidence since their debut in 1990. However, because mutual funds and ETFs behave in much the same way, it’s essential to know their key differences. Some are listed below.
Management
While ETFs can be active or passively managed, most are passively managed. It means decisions are made through computer algorithms rather than through human interaction with the funds. On the other hand, mutual funds are actively managed for the most part, with passive management options available.
Variety
ETFs fall behind mutual funds in variety. According to Statista, only over 7600 ETFs were traded globally in 2020. The same source provides that traded mutual funds were 126,500 in that very year. While both investment vehicles continue to grow, there’s more variety available in mutual funds, indicating they’re certainly not obsolete.
Costs
Predominantly, mutual funds cost more than ETFs, at least at first. Although there are mutual funds with no load options, fees are sometimes hidden, so there can be fees even with no load options. ETFs have fewer fees, but you do pay broker commissions when the ETFs are sold.
Taxes
Tax advisers often encourage ETFs over mutual funds because although both are taxed the same in terms of capital gains and income taxes, Investopedia explains, “the taxable income that the two vehicles generate varies due to their unique options.”
Customer Service
ETFs offer minimal customer service because most are traded through Robo accounts with little, if any, human interaction. This feature is what keeps them a cheaper option than mutual funds. On the other hand, many mutual funds offer fund managers who provide support to clients.
Mutual Funds vs. ETFs: Which Investment Vehicle Is Best?
Some financial experts began to argue that mutual funds were becoming obsolete about ten years ago. The thought was that ETFs would become the best option because they’re easily traded throughout the day; however, mutual funds continue to be a significant part of most financial portfolios.
Neither mutual funds, ETFs, nor stocks, and bonds are the go-to investment vehicle for all investors. The same is true for those changing focus from one investment vehicle to another: there’s no “one size fits all” answer.
The key to knowing if and when you should change your investment strategy is in reviewing your financial objectives and matching the best investment vehicle to your strategy. In short, ETFs often encourage frequent trading, while mutual funds encourage long-term investing. Each financial goal needs a different approach.
If you’re concerned that you’re holding too many mutual funds and want to branch out, review your portfolio. If you determine that a lot of your mutual funds are index funds, you may switch to ETFs to save on fees and grow your money faster. But that advice doesn’t make mutual funds obsolete. It simply makes them one of many options.
You may find that you already have a healthy balance. Or maybe, you have only mutual funds and want to see what you can do with ETFs. Again, that doesn’t make mutual funds obsolete; it just means you have more tools to add to your portfolio.
Why ETFs Make Mutual Funds Seem Obsolete?
At first, ETFs were like the shiny, new toy we received on Christmas morning. They did everything mutual funds could do, and they were traded on the stock market throughout the day rather than just once at the end of the day.
They also performed (and continue to perform) well. The better ETFs did, the more people started to add them to their portfolios, though not to the exclusion of mutual funds, but rather as a supplement.
However, rather than render mutual funds obsolete, it can be argued that ETFs have helped many investors look more closely at mutual funds. Although they have created competition for investment dollars, ETFs have also developed an environment where many brokerage firms reduce fees to keep mutual funds an attractive investment vehicle.
Further, ETFs have brought more attention to how you can reduce tax implications with investment gains. But mutual funds remain a tried and true way to grow your money. So they’re anything but obsolete.
Seeing both sides of any position is the best way to decide for yourself, so I’m including two YouTube videos that can give you various perspectives of ETFs and Mutual Funds.
The first video is from Dustin Tibbitts at JazzWealth: He does an excellent job breaking down the difference between the two investment vehicles.
The second is from Dave Ramsey, who clearly has a bias for mutual funds, but he explains why and when it’s ok to invest in ETFs.
Both videos show that mutual funds are anything but obsolete and will hopefully help you determine which one will help you meet your financial objectives.
There are also two books from Amazon that you may consider reading to further educate yourself on what to look for in mutual funds and ETFs:
Education Materials To Consider
- ETFs for the Long Run Audiobook from Amazon.com goes over the fundamental differences between ETFs and many other investment vehicles. The author provides insights and practical advice for readers to consider.
- The Bogelhead Guide to Investing Audiobook from Amazon.com is the second edition of a popular investment handbook. It’s an easy read that includes humor and explicitly discusses ETFs among other investment vehicles. It’s a book you’ll likely refer to often.
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Conclusion
While mutual funds are certainly not obsolete, they do share space with ETFs. Yet, you can invest in both vehicles if they fit your financial objectives. After all, diversification is the key to safer investing.
BEFORE YOU GO: Don’t forget to check out my latest article – ‘Exploring Social Trading: Community, Profit, and Collaboration’. I surveyed 1500+ traders to identify the impact social trading can have on your trading performance, and shared all my findings in this article. No matter where you are in your trading journey today, I am confident that you will find this article helpful!
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