Managed Funds vs Exchange Traded Funds (ETFs)

Which one is better?

Managed funds are professionally managed portfolios. As an investor, you would purchase ‘units’ in an unlisted fund rather than shares. On the other hand, ETFs are listed on the stock exchange so that they can be bought or sold on the market just like shares. For this reason, ETFs are commonly preferred by investors who would like to replicate market indices such as the ASX200 (XJO)  or ASX50 (XFL).

Both managed funds and ETFs enable investors to gain exposure to different asset classes and industry sectors with a small investment outlay. Similar to shares, ETFs have a minimum investment requirement of $500 whereas managed funds normally start at $1000. Both investment products provide the benefit of diversification which is essential for reducing the level of risk within your investment portfolio and smoothing out your investment returns.

An important factor to consider before any investment decision is made should be the costs involved. For managed funds, the following costs are applicable:

  • Fund Costs – Fund managers may charge fees for the costs associated with investing or managing your money.
  • Entry/Exit or Contribution Fees – A buy/sell spread is charged when you make or redeem investments. They are usually charged on both entry and exit to cover transaction costs such as brokerage and stamp duty. These fees are deducted from the unit price of the investment. This is why you would see a difference between the purchase price and the selling unit price.
  • Ongoing Fees – Annual fees such as Indirect Cost Ratios (ICR) or Management Expense Ratios (MER) vary depending on the fund type.
  • Performance Fees – Funds that seek to outperform a benchmark may charge fees for doing so.

For ETFs, the first cost that you would face is the brokerage fee charged by your broker. The industry average for an investment under $10,000 is $19.95 (Source: CanStar 2014). Annual management fees are generally expressed as a percentage of the investment value (e.g. 1%) and accounted for in the unit price of the ETF. The management cost includes: all relevant fees and costs associated with managing the fund, including custodian fees, accounting fees, audit fees and index licence fees (Source: CommSec). It is also important to take into account the bid/ask spreads. This is the difference between the highest price which a buyer is wiling to purchase and the lowest price which a seller is willing to part with them for in the stock market.

Generally speaking, ETFs are cheaper than managed funds which is why they are increasingly popular nowadays. With less on the cost front, this means that there is more potential to deliver higher returns. Given its listed status on the stock market, they tend to be more liquid than managed funds in terms of entering and exiting the fund.

A disadvantage of ETFs is that their exposure to market sentiment would invariably be more than managed funds. When the market is falling and investors are bearish, ETFs would likely be more affected than unlisted managed funds and could suffer falls in price even though it may have invested in assets that are generating quality returns.

The decision? ETFs are still the winner out of the two.

Disclaimer: The information provided above is not intended to be and does not constitute financial advice or any other advice. It is general in nature and does not take into account your objectives, financial situation or needs. 

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