Why would I buy an ETF over a managed fund? What are the advantages of ETFs?

There are some major differences and advantages of ETFs over managed funds which investors should be aware of. The primary differences are summarised in the table below:

Expanding on these characteristics:

Risk Diversification – ETFs usually provide all the diversification benefits of traditional managed funds, providing an investor exposure to an entire index. The diversification of an index means the risk position for an investor is significantly lower than investing in a single stock. In the case of managed funds, it is up to the discretion of the individual fund manager to invest in particular stocks.

Fees – Fees are arguably the biggest difference between managed funds and ETFs and one of the primary reasons for the global success of ETFs. Managed funds charge significantly higher management fees than similar ETFs and investors may also incur additional fees for outperformance of the benchmark index.

Pricing – ETF pricing is transparent as they are traded on stock exchanges meaning investors can at all times see the price and value of their investment. By comparison, pricing for managed funds can often be provided far less regularly, sometimes on a daily, weekly or even a monthly basis.

Liquidity – ETFs are traded on a stock exchange and so investors can, at any time during the trading day, choose to buy or sell units. Liquidity in managed funds can range from very high to very low depending on the fund strategy and in extreme circumstances, investors can be restricted from selling units.

Accessibility – ETFs are purchased exactly like a share on exchange which means investors can utilise online brokers, stockbrokers or financial advisers to purchase the product. In comparison, managed funds are purchased off-market and usually require an application form which can be time consuming and complicated.

Transparency – One of the most cited benefits of ETFs is their transparency. Because they track specified indices or asset classes, an investor has complete information of the constituents or assets being tracked. By comparison, many managed funds provide relatively little information about the holdings of the fund making it hard for investors to understand exactly what is being held by the manager.

Performance – Investors are increasingly scrutinising the performance of actively managed funds versus passive alternatives. This is particularly so due to the fees charged by active fund managers, relative to lower cost alternatives such as ETFs. The track record of active fund managers in outperforming their benchmark indices is statistically poor.

Approximately 81% of Australian equity fund managers who benchmark to the S&P/ ASX200 were beaten by this index in the 2010 calendar year. Even more concerning is over a longer period of five years, approximately 71% of fund managers were beaten by the index.

Although managed funds have a place in portfolios, ETFs can provide superior outcomes depending on the investors desired outcomes.