In the battle between mutual funds and exchange traded funds, investors have been voting with their wallets for ETFs lately. At least three fund issuers now plan to convert some of their mutual funds to ETFs.
ETFs can be traded like stocks all day as their prices rise and fall. This often has lower costs and leads to lower tax bills than mutual funds do.
But investment funds, which are priced only once a day, can be more stable in some respects. During a two-week period in March, when the markets became volatile, ETFs traded for bonds at huge discounts on their net asset value, or the net asset value, which is the share value of the fund’s holdings. This means that if you had to sell your fund in the midst of the turmoil, you would have had even stronger losses than the decline in the market justifies.
Bond ETFs usually trade at prices close to net asset value, but during the so-called pandemic panic, some large bond ETFs traded at 7 percent or more before recovering in April. Partly because of the one-time price of investment funds, their investors have not experienced the same problems.
Dimensional Fund Advisors from Austin, Texas, converted four tax-managed mutual funds and two core investment funds to ETFs in November, which will reduce the company’s projects to 0.15 percent. Milwaukee-based Guinness Atkinson Asset Management plans to convert several funds, as does the Nottingham Company, a Rocky Mount, NC fund administrator.
Dimensional Fund Advisors do not expect to convert any additional mutual funds, says Marlena Lee, global head of investment solutions for the company. “Because we want to offer our clients choices about how they invest with us, we plan to have a full range of investment funds and ETFs,” said Dr. Lee said.
Investors can also turn to other mutual fund companies, such as Vanguard, which offers ETF versions of some of their mutual funds.
Although investment funds still dwarf ETFs, with $ 22.5 trillion in assets compared to $ 4.7 trillion for ETFs, the recent trend has favored exchange traded funds. According to Elya Schwartzman of ES Investment Consulting in Marin County, California, ETFs achieved a total inflow of more than $ 509 billion during 2020. This includes $ 679 billion that flowed to mutual funds in the money market and sought a safe haven.
Without the inflow of the money market, mutual funds lost $ 470 billion in outflows for the year in the long run. Only 32 percent of investment fund issuers showed net cash inflows in 2019, compared to 74 percent for ETFs, according to the Investment Company Institute, a trading group.
ETF managers point to several specific benefits of exchange traded funds compared to traditional mutual funds. This includes greater transparency in businesses and lower operating costs. And because of the way mutual funds are structured, investors can owe themselves capital gains tax at the end of the year, even if they have not redeemed shares and even if the share price ended the year with a loss, it is’ a surprise unlikely for ETF shareholders, who only pay capital gains if they sell the fund at a profit.
Another benefit that Jim Atkinson, CEO of Guinness Atkinson Asset Management, cites is the ability to trade ETFs during the day.
“With mutual funds, you do not know what the right price is,” he said. Atkinson said. ‘With an ETF you can place a market order and know what the price is. Many advisors do not like to put their clients in a position where they do not know the price until the end of the day. “
Guinness Atkinson has been working on the conversion of these funds since mid-2018. This includes negotiations with regulators and contact with shareholders.
The conversion process is complicated. Fund managers will usually start a tracking ETF and then merge the existing mutual fund into the new ETF which will save shareholders of the converted investment funds from paying taxes due to the change.
Unlike many ETFs that mimic established indices, such as the S&P 500, these converted funds will still be actively managed according to the mutual funds they replace.
“I think it’s a great thing for investors, and in the long run it’s going to be a great thing for outfits that make this change,” said Andy Kapyrin, partner and co-chief investment officer at RegentAtlantic, a Morristown, NJ , wealth manager, said. “Mutual funds have been revolutionary, but ETFs are just a better, newer technology.”
But Kenny Polcari, managing partner of Kace Capital Advisors in Boca Raton, Florida, does not see much benefit to ETFs. Polcari, for example, prefers the relative opacity of mutual funds and their quarterly reporting on their shares because it is less frequent. disclosure prevents investors from trading spot based on what the fund buys or sells.
“The managers claim that these are actively managed funds, and that they can be managed more actively than current ETFs, but I prefer a mutual fund with a more long-term approach,” he said. Polcari said. ‘I do not think this is the next investment vehicle that everyone will flock to. It sounds sexy, but I would not use an actively managed ETF. ”
Fund managers say they have been asking their clients for years to add ETFs that they can use to set up custom portfolios for their investors. The Securities and Exchange Commission approved new rules for ETFs that went into effect in December, eliminating a lengthy and expensive approval process for new funds and enabling new potential tax benefits for firms issuing ETFs.