Masterclass: ETF vs. Mutual Funds

Welcome to real financial real financial on WK Excel available wherever

you get your podcasts I'm podcasts I'm Matt always by Mike Morton of advice

and the host advice and the host of financial planning for entrepreneurs

and outstanding new cover art of art of Mike Borton sitting on staircase.

The lighting is The lighting is such that it looks like the a theorial light of down

shining down as you ascend life's ladder towards some towards some novels financial

novel really a It's really a perfect theme

And did just say that whole spiel on one breath?

I think you just took one

did one I did one breath and that's, this is how my stream

of consciousness works It sounds like I just was cramming for the English portion

of my I don't know I don't know why my brain just does It just does You're does.

You're also listening to this probably in the Capitol podcast feed The reason

The reason I'm pushing the podcast versions is that today's show Obviously

a lot of Obviously, a lot of folks are XL radio which XL radio which we

appreciate today's but today's show Mike were to be a little bit more going to

be a little bit more of a deep dive.

So we want people to check out the podcast you might have one of might

have one of to hit that 15 second 15 second rewind something again.

you're not going You're not You're not going to spare the

No, this is going to be sort of a master class on versus mutual funds.

And I wanted to get into a little bit of the nitty gritty

between the two so everyone can understand exactly the differences.

So there might be, know might a little bit long in terms of the podcast getting

a little bit longer, and there'll be an associated article with this.

well.

So for those, just really trying to understand the nuances, we're

going to dive into that today.

Fantastic.

And that's another that's another on you're listening on radio, check out

the capital closeup podcast feed or financial planning for entrepreneurs,

because there's probably going to be more content than we're able

to get into this on the radio.

Okay Enough Okay.

Enough filibustering ETFs versus mutual funds What's an funds.

What's

an ETF

ETF exchange traded fund.

you already Yeah you already lost me there is it

really it Is it really different

than a

no they're exactly the same.

So

All right.

Well that's All right Well that's been financial planning for entrepreneurs.

Thank you for today's show.

We know there are differences.

There are

are differences.

Bottom line upfront.

All right.

So bottom line up front for this episode is ETFs and mutual funds very simple.

In many ways.

Okay.

But hold ETFs exchange traded funds.

It'll usually have the name in the T in the name of it will say ETF,

hold ETFs in your taxable accounts,

Your brokerage account, make sure you have ETFs in those accounts and not.

Mutual funds.

Now there might be nuances to that, that's just the bottom line upfront

is they're more tax efficient.

say you will save more money.

There'll be more money in your pocket.

If you use ETFs in your brokerage account, rather than mutual funds,

Got it.

Okay.

So ETFs in your brokerage got any other account any other types of accounts

where you should have ETFs and maybe you can also give maybe you can also

give some examples of the types of where you'd prefer to have mutual funds

Yeah that's the big one is just because the tax situation.

That's one of the reasons ETS were created.

There's other we're going to dive into otherwise I'm not too concerned

about it in tax free or tax deferred.

These are your 401k is for BS.

IRA You could hold either one you're not paying taxes throughout the year on any

growth or dividends or capital gains.

me ask you So let that's actually super clear super clear definition,

the bottom line up the bottom line up front is good is this important?

why is mean Why is this worth deep dive

Yeah So let me tell a story that came out towards the end of

last year about Vanguard We have talked a lot about target date funds.

Okay.

Target date funds Are those retirement?

funds And they hold a mix of stocks and bonds in there.

And often these could be a mutual fund or an ETF in this case, the store.

It's about an ETF target date fund, and Vanguard lowered the amount

that you had to invest in one of their low-cost target date All From

a hundred million down to 5 million.

Now these are big numbers.

You have to invest a minimum of a hundred million.

Who's investing in that the pension funds and stuff When it

got lowered to 5 million, everybody rushed into that lower cost.

Okay.

So have a target date fund that all these institutions now with, multi-millions

could now get into a lower cost.

Of course, they're going to take advantage that Move out of the one

fund with the higher cost into one, with the lower cost, because of

all the money, leaving the people.

This isn't a, sorry, this is a mutual fund, not an ETF mutual fund.

Okay.

So of all the people leave.

Everybody who is left holding that target date fund mutual fund in their brokerage

account got hit with capital gains.

Now I'll spare you the details of why this works.

We might get it in the episode, but the point is, if you have a mutual fund, if

you had this mutual fund in your brokerage account at the end of last year, if had

bought it, say a hundred thousand dollars, this target date fund mutual fund.

At the end that, you just invested a hundred thousand dollars mat

into this target date fund.

you're going to hold it for 20 years.

had to pay $3,000 of taxes.

Why is that?

You just invested a hundred thousand dollars.

And at the of the year, you got a statement that says, Hey,

you the IRS, your tax forms.

Mike, you're making me Mike you're making me nervous someone someone

whose name is I don't call him Matt.

No no no no That R no no no no That that's uh M Robeson may or may or may not

have target date funds with Vanguard M

Uh yeah You know

Don't worry about it too much

bad.

No, okay.

because you don't have hundreds of thousands of dollars in there.

Your 50 bucks you got in it's not going to be big deal.

I'm still not looking I'm looking forward to the tax

But yeah, let me just say that again.

Cause the reason this was a mutual fund in your taxable brokerage account.

And just because you made an investment, the people that hold that investment

can get hit with tax consequences based nothing That you really did.

It's what other people are doing.

All these pension funds ran out, bought something else instead.

And so therefore Vanguard had to pass on capital gains people that held that fund.

And so you got hit with a capital gains tax, even though all you did

was just buy into an investment.

You just holding it.

is indeed Indeed and I see why we see why we warned be ready to

just hit that rewind But I also but I also see what the upshot is here

circling just circling back to the top.

So what you're saying is.

if I had had been in ETFs rather rather than mutual fund in my taxable brokerage

account, I would would not have had that

100% You got it.

So hold ETFs in your brokerage account.

All right.

That's why we that.

Got it.

Got it.

All right.

All right.

Go.

All

So I was just gonna say, let's go ahead and start talking about mutual

funds and ETFs and talk about some of the details and then differences.

right right right right You want to start Which want to start

Which one do

yeah, we'll start with mutual funds.

Cause they've been around longer.

These are an easy way of course, to hold a basket of assets stocks, right?

the S and P 500, you want to hold All companies.

You buy one mutual.

And hold that entire thing.

So it's great.

It's an it's an easy way of purchasing entire thing.

know funds.

the U S all kinds of regulations about how you a a mutual fund, how you to run the

mutual fund, all those kinds of things.

They typically have a minimum investment a a mutual fund.

So maybe $250, $3,000.

I told you this other one was an institutional fond.

It was, a hundred million dollars was the minimum investment.

So they have a minimum investments and mutual funds settle at the end of the

day, based on what you want to invest.

So if you want invest that thousand dollars, you go ahead and click

the button throughout the day.

I want to put thousand of cash in this mutual fund.

You actually will end up owning that mutual fund at the end of the day.

So you don't get it like right away when you click the button,

they settle one time per day.

All those buys and sells align at the end of the day.

So those are mutual funds.

okay.

All right.

Then about what about

ETFs

Yeah.

So let me stick on mutual

funds

All right.

All right.

more

All right.

All

Yeah And we'll to the ETFs.

I want to say just a of other things about.

Mutual funds, but that's the high level.

There's a other there's open-ended funds close ended funds.

So you see this open-ended funds are what you typically buy and sell.

no limits on the number of shares.

So was more people want to buy them the mutual fund company issue more shares.

So they're open-ended.

if Matt wants to buy a thousand dollars of a mutual fund and no one's around to sell,

he can still get his money in there.

They'll just issue more shares close in.

There's only a certain number of shares, so so you've got to line

up buyers and and sellers, so they work little bit differently.

Most of the ones out there that you're going to be investing

in are open-ended shares.

You can just buy them now there's different share classes,

and this is really important.

And unfortunately, you know advisors often push certain share

classes it's better for them.

Not necessarily the best for the client because it gets tricky,

which share class is best for you.

I'll talk about of them.

There's a, B and C classes of mutual funds share classes.

And what you're doing is you're paying for owning that fund So

on the manager of a a mutual.

I'm going to have to some buying and selling.

I'm 40 hours a week, doing stuff.

So I get paid by the investors.

In my fund, Matt puts a dollars into my fund.

I'm going to take a few pennies of that to pay myself, my salary.

Okay.

So are we going to do that There's different ways I could do it.

I could say Matt at cool, out of your 10,000 bucks take 500 upfront

and then really I won't charge you.

I'll just charge you pennies from there So I'll take a lot up front,

I have more work to do upfront.

Yeah.

That's called a shares.

Front-loaded shares your $10,000 investment.

You only actually get 9,500.

I took $500 to pay myself

right off the

top

right

right off

the top.

So your investment is 9,500 bucks.

And then from there you're hardly paying anything.

Okay.

Second is B shares their back end loaded.

Okay, so you get your $10,000 investment, but if you ever sell Matt, I'm taking 500.

I want your money to stay in my fund.

So if sell, when you go ahead and sell down the road, I'm going to 500 Now,

if you stay in for five years seven years or 10 years, it might go to zero.

Okay.

So that backend load drops down over Those are B shares, how you pay for them.

And finally, there are C shares where you pay a level load.

All right.

I'm just going to take 50 bucks a year from you, Matt, for your

10,000 investment It's going to be 50 bucks a year, no upfront fee.

No, no backend fee.

Just level load throughout.

I I think how do I think about which of those is

better

for

Yeah.

If you're going to be invested for the long-term backend

loads can be really nice.

First.

You need to compare what the ongoing maintenance fee for any of those?

three?

Okay.

The C shares are going be a little bit higher than the because the

only way I'm getting paid as the manager is level, load every year.

Okay.

Versus a, I get a big upfront fee or B if redeem them I don't get my every year fee.

If you change out after six months, and that's why I charge you way.

So you have to compare the load time.

And then how long are you going to own the shares?

If you're going to own them a long time, the end.

load could make sense, because again, it gets stepped down.

I see.

W so could we make this could we make this kind did for let's say I'm in a let's

say I'm in a Vanguard target retirement

mutual fund.

Yup

Would that be Would that be the kind of where I intend to I intend to stay

in that fund for 10, years years Backend

loaded loaded class

of those that you're going to buy yourself are just going to be,

C shares.

They're going to be level Yeah.

That's why I I to that expense ratio 0.1% 0.2%.

That's the expense ratio.

That's the shares level of.

load.

That's how they work.

The . A and the B are really sold through advisors.

I

All right.

I don't want to get into the details, but if you're working with

an advisor and they're saying, Hey, here's a portfolio, we're going set

up for I recommend these things.

I'll take your a hundred thousand.

We'll invest it way.

That's where you want to ask the question.

Whoa.

Okay, what kind of, you what are the investments?

How am I paying for them?

We just talked about this last episode, right?

What the investments?

How am I paying for them?

How's coming Because I see.

this all the time.

Oh, you own a shares.

spent, two years ago, 10,000 bucks, but you only really Got $9,000 of

investment because that was the commission paid to the advisor that took that.

That's why they recommended those eight shares.

Got it.

So the Got it So the bottom I'm basically I'm basically taking I get

with with most of that I would that I would buying into, but if I'm setting

things up, so I should just be so I should just be in that case in that case

with things that with things that I'd be setting up with an that's that's.

will have a little you will have a little bit more control and you really should.

You really

All right

these differences Yep There you

let's let's let's make sure to I think I I think I got the

basics What about What about ETFs

very similar.

Okay.

In terms of you're owning a mix of assets, just the mutual fund.

So you can invest $10,000 in the full S and P 500, you get all 500 companies.

One ticker symbol, one thing.

So they're very similar in that way.

ETFs are relatively new they're.

It's a new way packaging.

Think of it this way.

It's a new way of packaging.

investment you could do it with mutual funds.

Hey, my 10,000 bucks, I own this mix stocks and bonds or whatever.

I can do the same thing with ETFs, but it's a different wrapper

around a a very similar investment.

All right So think of it that way.

Now the ETFs purchased and sold on the open market.

So throughout the day when you click buy, you're going to own them immediately.

All right So you can buy and sell them throughout the day.

So that's very different told you mutual funds once a day, they do that match.

Okay.

But ETFs throughout the day, you can and sell these things Just like you

can stocks, you can own a single share.

You can own fractional shares.

So the fund had that minimum investment, $250.

These Nope.

You can own a single share fractional shares and trade on the open market.

The other differences is.

They're based on supply and demand.

So even though it's S and P 500, which has, you can look up the, the exact

all those 500 companies, how much they each are trading at that moment,

the ETF version, maybe slightly above or below though, the 500 components.

that does that mean

does

Now it usually they're not so much.

And me just say, before you ask a question, just that's different to that.

I didn't say this about the mutual funds, but mutual funds up.

At the actual price of the underline, most of the time, the price of the underlying

see does that mean that mean then you were kind of watching ETFs even within

a single day versus watching mutual ETFs would have ETFs would have more volatility

they have more volatility throughout day, for sure.

because they trade throughout the day mutual funds.

In fact, this is a a good point, when you log in and look at your

You know your account, the mutual fund won't change price

Oh, I

the end the the

and your ETFs, you thrilled at thrilled at 9:00 AM a dejected

Yeah, In fact, it's funny, you mentioned that because on my app

where I'm like watching symbols, I have some mutual funds and they just

sit there and yeah Why is this one?

Not like going up like

the phone It's like update refresh refresh

refresh Oh, that's a five o'clock at night.

Will it refresh?

Got it.

And um so you were explaining with mutual funds, are different

there, are classes Are there are there different types of ETFs?

There are different types ETFs.

These aren't so important.

It's more kind of the underlying logistics of how one has to work from certain areas,

sectors the the market, but they're, open-ended funds there's unit investment

trusts And there's grant or trusts.

Again, these are different kinds of rappers.

They're all under the ETF, but they're to be a little bit different wrappers.

That I wouldn't be so about it because there's no real and use difference in

terms of the AA shares, B shares C shares.

We talked about they can make a difference to you as an individual

investor in terms of this.

There's nothing that I found so far that it makes any difference

but I will come back to that.

If at some point I noticed an important difference for

consumers around those different

types of

Got it So it's not like the with mutual funds where you know, if

you're setting something up advisor you really do need to be to be aware of

the different classes per it's just a

different

setup

that's right Yeah Different Yeah.

Different behind the scenes set up for

certain

Well here's what I want to do We're about to about to get a whole

lot lot more on this, difference with index funds et cetera.

But for our radio our radio we need to wrap up the show right now.

So again check check out close-up or or financial planning for

entrepreneurs, if you want much more of this but for the radio the radio

listeners, we'll sign off right here.

Thanks so much, Mike

thanks.

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