Today, investing has evolved beyond traditional savings bank accounts and fixed deposits. Investors now have a wide range of investment options that cater to various risk profiles, financial goals, and market outlooks. Among these, mutual funds and Exchange Traded Funds (ETFs) are two popular investment vehicles that allow investors to gain diverse market exposure and build long-term wealth.
While both these investment avenues possess several similarities, there are some stark differences as well. For instance, mutual funds are actively managed by fund managers and aim to outperform the market. On the other hand, ETFs are passive investment funds, that track underlying market indices or sector sub-indices.
If you are confused about choosing between mutual funds and ETFs, this blog post is for you. Here, we will cover the differences between mutual funds and ETFs, to help you decide which option best aligns with your investment objectives.
Understanding Mutual Funds
A mutual fund is an investment vehicle that pools money from multiple investors with common investment objectives. These funds are then invested in diversified portfolios of stocks, bonds, and other money-market securities. Mutual funds are managed by professional fund managers who make decisions based on the fund’s specific goals, such as growth, income, or a balance of both.
Mutual funds are available in various types, including equity funds, debt funds, and balanced funds. One of the unique features of mutual funds is the Systematic Investment Plan (SIP), a popular investment strategy that allows you to invest a fixed amount at pre-determined intervals. With SIP, you can benefit from rupee cost averaging, where you buy more units when prices are low and fewer units when prices are high, ultimately reducing the average cost per unit.
What are ETFs?
ETFs, on the other hand, are funds that track a specific index, sector, or commodity and are traded on stock exchanges like individual stocks. Unlike mutual funds, which are priced only once a day, ETFs are priced in real-time, allowing you to buy or sell throughout the trading day. For buying and selling ETFs, you will need to open demat account.
Since ETFs generally follow passive investment strategies (tracking an index like the Nifty or Sensex), they tend to be less expensive than actively managed mutual funds. Additionally, as ETFs are traded on the stock exchanges, they offer higher daily liquidity.
Mutual Funds Vs. ETFs: Key Differences
To determine which investment option is better, let’s compare mutual funds and ETFs across several crucial factors:
Management Style
Mutual Funds: Typically actively managed, meaning fund managers make investment decisions based on research and analysis.
ETFs: Primarily passively managed, tracking a specific index or commodity.
Cost and Fees
Mutual Funds: Actively managed mutual funds usually come with higher expense ratios due to management fees.
ETFs: Due to their passive nature, ETFs generally have lower expense ratios. Additionally, you may incur a brokerage fee when trading ETFs, depending on the trading platform.
Trading Flexibility
Mutual Funds: Traded once a day at the net asset value (NAV). SIPs allow you to automate your investments monthly or quarterly.
ETFs: Traded throughout the day at market price, allowing for intraday trading opportunities.
Minimum Investment Requirements
Mutual Funds: Often have a minimum initial investment requirement. However, with an SIP investment app, you can start with as little as Rs. 500 per month.
ETFs: Minimum investment is generally the price of a single ETF unit. Investing in ETFs can be more affordable depending on the ETF.
Liquidity
Mutual Funds: They usually offer lower liquidity. There may be an exit load if redeemed before a specified period.
ETFs: Highly liquid as they can be traded on the stock exchange during market hours. However, liquidity depends on the trading volume of the ETF.
Mutual Funds or ETFs: Which Option Is Best For You?
There can be no one-that-fits-all solution to this question. When deciding between mutual funds and ETFs, it’s important to assess your investment goals, risk tolerance, and preference for flexibility.
For Beginners, Long-Term Investors
If you are a beginner or someone who prefers a hands-off approach, mutual funds, especially with a SIP, may be ideal. They offer professional management and require less time and effort. You can conveniently set up SIPs on any SIP app to ensure consistent investments and build wealth gradually over time.
For Cost-Conscious and DIY Investors
ETFs are generally more suitable for cost-conscious investors who prefer lower fees and don’t mind managing their investments. ETFs can also provide excellent exposure to specific market segments, such as international or sectoral indices. If you are someone who enjoys the flexibility of buying and selling throughout the day, ETFs offer an added advantage.
For Experienced Investors With Market Knowledge
ETFs may be more appealing if you’re familiar with market trends and willing to make trading decisions throughout the day. You can leverage various online platforms, including some of the best trading app, to keep track of real-time prices and make timely investments.
Conclusion
Both mutual funds and ETFs can be valuable additions to your investment portfolio. Mutual funds provide access to professional management and the ease of SIPs, which can be highly beneficial for those looking to build wealth gradually. ETFs, with their lower fees and intraday trading options, cater to more cost-conscious and experienced investors.
Regardless of your choice, the key to successful investing is discipline, consistency, and clarity of goals. Start by evaluating your financial objectives, risk tolerance, and knowledge of the market. Then, select an investment avenue that aligns with your needs.
With HDFC Sky, you can invest in both mutual funds and ETFs seamlessly. It allows you to start investing with minimal paperwork and a quick online process to open a demat account.
