What's in a name?

It’s a shame that exchange-traded funds have such a technical-sounding, unfriendly name, as opposed to mutual funds that sound so fuzzy and warm. In essence, ETFs are nothing more than low-cost index mutual funds that are bought and sold in a slightly different manner. Yet many people seem to believe that ETFs are only for sophisticated investors, day-traders, and big wheeler-dealers....in part because of that darned name. Hmmm. Maybe if I changed my name to Einstein, people would think I'm a genius.

Albert

Basic Stuff: How ETFs Differ from Mutual Funds

"How to they differ from mutual funds?" is often the first question I am asked about ETFs. Here is my answer, in a nutshell:

They are similar in that they both represent “baskets” of securities (usually stocks or bonds), but mutual funds and ETFs differ in a number of ways:

ETFs trade differently. They can be bought and sold, and their price changes, throughout the day. Mutual fund orders, in contrast, can be made during the day, but the actual trading (and any resulting price change) doesn’t occur until after the markets close.

ETFs are cheaper. They require you to pay small trading commissions, but ETFs usually wind up costing you much less than a mutual fund because the ongoing operating expenses tend to be much less. Most ETFs charge no more than one-half of one percent a year, some less than one-tenth of one percent.

ETFs tend to track indexes. Managers of ETFs tend to do very little trading of securities in the ETF. The vast majority of mutual fund managers spend a lot of their time trading.

ETFs result in less tax. Because of low portfolio turnover and also the way they are structured, ETFs’ investment gains usually are more gingerly taxed than the gains on mutual funds.

Russell

Put Your Money Where Your Mouth Is?

"Put Your Money Where Your Mouth Is?" That's the headline of an article in today's Wall Street Journal that questions whether ETF managers should invest in their own products. Apparently, according to SEC records, many do not. The article suggests terrible things about those managers....

I'd like to defend them.

In the case of an actively managed mutual fund attempting to beat the market, yes, a manager should indeed "put his money where his mouth is" -- absolutely. I would not want to invest in any actively managed fund that the manager did not have enough faith in to plunk some his own personal funds. But index mutual funds and (most) ETFs? That's a whole other story.

There are many perfectly good reasons why an ETF manager might not want to invest his or her own money in a particular index:

1. His risk profile may not match yours...and perhaps the QQQQ is a bit too risky for his own financial situation.

2. She may already have funds invested in the index, perhaps through an index mutual fund, and would have to pay huge capital gains to switch to the ETF.

3. He's making deposits or withdrawals on a regular basis, in which case, an index mutual fund may make better sense than an ETF.

4. She may have just bought herself a new Jag, and has no money to invest.

In short, don't be concerned about where the manager of an index fund keeps his own loot....concern yourself with how well he tracks the index, and how much he charges you to partcipate in his fund.

Russell