I know there's a lot of confusion around mutual funds, index funds and ETFs.
So we are going to clear up that confusion today.
We're going to be talking about
the similarities and differences among mutual funds and index funds and ETFs so
that you can decide which one is going to be the best investment for you.
I am Tiffany Thomas with Wealthy Tiffany Dot
com and I achieve financial freedom at age 38.
And if you are looking to achieve financial freedom at a young age as well,
hit that like button and the subscribe button.
And we are going to dive right
in. The first investment we are going to talk about is mutual funds.
The long and boring definition of a mutual fund is a company that brings together
money from many people and invests it in stocks, bonds or other assets.
So essentially, a mutual fund is a stock market investment
that has a whole bunch of stocks or bonds or other assets inside of it.
So that way you can invest in one fund, one mutual fund, and diversified in all
of the different stocks, bonds or other assets.
And in today's video, we are just focusing on the stocks portion of mutual funds.
There are two types of mutual funds we are discussing today.
One is an actively managed mutual fund,
and the other one is an index fund with an actively managed mutual fund,
it is exactly what it says it is.
It's a fund that is being actively managed
by people, and an index fund is just tracking a certain index.
To give you an example,
it could be the US stock market.
There is an index fund that tracks the index for the US stock market,
or it could be tracking the S & P 500 for another example.
And there are a lot of funds out there.
But those are just two very popular popular examples.
While both actively managed funds
and index funds have expense ratios, the actively managed mutual fund is going
to have a higher expense ratio than an index fund.
Because someone is actively managing
that fund, they need to pay someone to do that.
So of course, it's going to cost more
because they are deciding which stocks go in which stocks go out and how much
of each stock to put inside of the mutual fund.
And with an index fund, it is much simpler since it's just tracking something else.
The index is already created.
The total US stock market is already created.
So that index fund just gets to track the total stock market.
So it's not as expensive to have an index fund.
And the thing is, I prefer index funds because it has
that lower expense ratio, but it also has really good returns.
Actively managed investments are those
in which a manager or broker buys and sells single investments in an effort
to beat the performance of a market index while they may perform well in the short
term most don't do as well in the market after one year.
Index funds, meanwhile,
tend to have higher returns over longer periods of time.
And there have been a lot of studies done about how the actively managed funds
aren't actually outperforming the index funds.
So you can definitely do that research on your own.
But I wanted to share that specific
article with you so that you can see it's not just me saying that index funds are
outperforming actively managed funds. Since I promote long term investing
and not day trading or just keeping your investments for a really short term, less
than one year, then index funds are perfect for that.
And if you are investing for the short term, are you really willing to risk
paying a higher expense ratio and hoping that it will outperform an index fund?
That doesn't seem like the best plan
to me, because when you have a lower expense ratio,
then you have that guarantee of keeping that expense super low.
Your index fund could
perform less than the actively managed mutual fund, but yet still outperform it
because you're paying a lower expense ratio.
When you are looking to invest in a mutual fund, take a look at the expense ratios
and see how high they are. And a really low expense ratio would be something like
0.04% and a really high expense ratio would be 1%.
While that may not sound like a lot when you are investing thousands and hundreds
of thousands and even millions of dollars, just 1% of your money can really add up,
especially when you are investing for the long term. Investing in index funds
means that you don't have to do a whole
bunch of research and find stocks that are going to outperform that index.
You can have a very passive investment and feel comfortable with it.
Let's talk about when you are going
to actually purchase a mutual fund so you can purchase it at let's say 10:00 a.m.,
but it won't go through until the end of the trading day.
So whatever it is priced at the end of the day, that is the amount you will
pay for the mutual funds, which is very different from a stock
and ETF, which we are going to talk about in just a moment.
When investing in a mutual fund,
it is really easy to automate your investments because you can actually just
have a direct deposit from your check every two weeks, go directly into your
investment account and purchase the mutual fund automatically.
You don't even have to think about investing.
A downside to investing in a mutual fund is that there may be a minimum requirement
to get started investing in that mutual fund.
For example, one of my favorite funds is the Vanguard Total Stock Market Index
Fund, and that has a $3,000 minimum to get started investing in that fund.
But once you have that $3,000,
then you can just buy shares of that index fund, just one at a time.
So you don't have to do 3000 and then
another 3000 and another 3000. Whatever that share price is
currently, once you have your $3,000 in there,
then you can spend the $150 whatever it is to continue to invest in that index fund.
And if you want to know even more about
this index fund that I really like, I have a video for you that I created.
I'll leave a link above and below.
You can check that out later on.
And not all mutual funds or index funds are that way.
There are some out there that actually
have a zero dollar minimum to get started investing.
When you are deciding which one you want to invest in,
make sure and look at the minimum requirement so that you know you have
the amount to get started investing in that mutual fund.
And the same when you are selling that mutual fund.
If you place your order at 10:00 a.m.,
it won't go through until the end of the day.
And that's really not a big deal for me
and especially those that are long term investors, because you don't need to see
that investment in your account right away and trade it to something else.
But I just want you to keep in mind that that is how the process works.
Also, when you are comparing an actively managed fund to an index fund,
the fund managers for the actively managed mutual funds are human,
which means they are prone to human emotion and human error.
Their job is to beat the market, which means they must often take
on conscious market risk in order to obtain good returns.
But when you are investing in index funds,
that risk is completely removed because it is just following the index.
So there's no human error happening or human emotion getting involved.
When you are looking at an actively managed mutual fund,
there is going to be more a capital gains tax because they are switching out their
investments more often than an index fund would.
So you'll end up paying more in taxes
to invest in an actively managed mutual fund.
All right, let's move to the other type
of investment, which is an ETF, an exchange traded fund.
This one is similar to an index fund in the fact that it is tracking an index.
It is tracking something else.
So this is not actively managed.
It is a passive investment.
And you'll see a lot of index funds that have an ETF version.
For example, the one I mentioned earlier,
the Vanguard Total Stock Market Index Fund, has an ETF version,
which is just called the Vanguard Total Stock Market ETF.
So if you're looking at a health care
index fund or a tech index fund, you will see the ETF version available.
And ETFs are different from mutual funds in the fact that they trade like a stock.
So once you place your order for an ETF,
then that that order is immediately placed.
So you immediately own that ETF.
You don't have to wait until the end
of the day to see what the actual price is going to be.
You can purchase that at 10:00 a.m. for
$143 and you've bought it for $143 at 10:00 a.m. And the same when you are selling
the ETF, you sell it immediately as soon as you place your order.
As long as it's within the trading hours
of the day with ETF. There is no minimum to get started.
There's no $3,000 or $10,000 or a $1000 minimum.
It's strictly the price of the share at the time you're purchasing it.
Let's say, for example, if you wanted to buy
the Vanguard Total Stock Market ETF. It is trading for about $230 right now,
so you could purchase just one share of that for $230,
and you would immediately own it as soon as you clicked on the buy button.
And you don't just have to buy one share of an ETF.
You can buy multiple shares if you wanted to buy ten shares or 100 shares,
how many ever you want to exchange traded funds usually have a low expense ratio
because they are just tracking something else.
And one thing you're not able to do
with an ETF like you are with an index fund is have that auto investment set up.
You would actually have to go into your account and purchase the ETF.
While you can have a direct transfer to your brokerage account every two weeks,
it would just sit in your brokerage account and not be invested.
You would have to log into your brokerage account and actually purchase the ETF.
And as far as tax implications go with ETFs, they are better than mutual
funds and a little bit better than index funds.
And while you will pay capital gains tax
on any ETF that you do sell, when things are being adjusted in the account within
the ETF, you're not paying capital gains tax for those adjustments.
Index funds, on the other hand,
have to buy and sell assets in that index fund to still track the index.
And when they do that,
any capital gains that are received will be taken out of the portfolio,
which would impact the index fund shares that you own.
And that being said, index funds hardly change.
So that really isn't that big of an issue, but I just wanted to bring it up
so you are aware that ETFs can be a little
more tax efficient than index funds, but it's really not that big of a difference.
And I know that one thing I talked about in my older video was the commission
charge to buy an ETF. And that is no longer the case.
I would say 99% of brokers don't charge a commission fee anymore,
so you don't have to worry about paying an extra fee to purchase an ETF.
And if you are paying an extra fee
to purchase an ETF, then definitely switch brokers.
Let's just do a quick recap here.
So you have mutual funds which include an actively managed fund or an index fund.
And I would prefer going with index funds
because of the lower expense ratios and you are still going to outperform
the actively managed mutual funds. And they trade at the end of the trading day.
And you can set up an auto investment
with index funds and with ETF, they also have an expense ratio,
but it is usually a low expense ratio and they trade more like a stock.
So when you actually purchase the ETF,
that is the price you are paying and it immediately goes into your account.
If you want to invest in that index fund,
make sure you have that minimum requirement. With ETFs,
you can just buy that one share and go ahead and get started immediately.
And you're not able to do auto investing
with ETFs, you would have to log into your account and actually purchase the ETF.
And as far as taxes go,
you will usually pay the most when you are investing in an actively managed mutual
fund and then an index fund and then an ETF.
But index funds and ETFs are pretty close.
All of that being said,
tell me in the comments below, what you are going to invest in.
Will it be a mutual fund, and will it be
an actively managed mutual fund or an index fund? Or will it be an ETF?
And just as a side note, if you want an easy way to track your
investments and all of your financial accounts, like your checking savings,
your credit cards, all of your bills that you have.
I personally love using personal capital
because you can hook all of those accounts to personal capital.
You can see your full financial picture
in one place in about 30 seconds so you can keep an eye on everything.
If you are interested in something like
that, I will leave my referral link below in the description.
You can click on that and get a free $20 Amazon gift card when you link at least
one of your retirement accounts to Personal capital.
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Thanks so much for watching.
I'll see you in the next video.