How come there are still $15T in assets in mutual funds, when ETFs seem better in every conceivable way?


It would seem like money should have shifted out of mutual funds and they would basically be dead products. But there’s still a lot of money in mutual funds. Why?

In: Economics

Well first of all most ETFs are in fact mutual funds.

Secondly, mutual funds don’t always have higher fees. Sometimes they’re structured just like an ETF but are over the counter.

Other times, they’re catered towards certain portfolios that don’t seek maximum return but consistent return, so the portfolio is adjusted often for risk and a target date. An ETF is designed to last to perpetuity usually.

Finally, legacy. Money is rapidly flowing out of active funds into passive funds, but it was so big to begin. Believe me, banks are getting crushed by not collecting the same fees they used to. Custodian banks like Bank of New York Mellon and State Street are down 50% on the year.

When you sell a security you’ve held for a long time you have to pay a ton of taxes. The tax hit is not worth the small advantages of a nearly identical ETF.

So say you have $100,000 long term profit in an S&P 500 mutual fund. If you sell, you’d have to pay 20% of that money to the government meaning you’d lose $20,000 right away. Then you’d just reinvest that money back in a S&P 500 ETF. Even if the ETF has slightly lower fees, there’s no way that’s worth it.

Furthermore, ETFs are easier to day trade, usually have very slightly lower fees, and have a slight tax advantage. But most money is saved in long term tax free or tax deferred retirement accounts. The advantages of an ETF are minimal in these cases.

For example, mutual funds are easier to set up for an automatic buy. You can automatically withdraw $100 from your bank account as soon as you get your paycheck and have it automatically invest the money for you in a mutual fund. Meanwhile ETFs require more manual work. You can’t buy $100 evenly. You buy a share for $77 and have $23 leftover.

Note, this is for talking about passive mutual funds vs identical passive ETFs. Some people (i.e., idiots) like active funds because they think that the money manager they’ve hired is a genius and worth the high fees they charge. Those were traditionally structured as active mutual funds (but is starting to change with the advent of active ETFs).

As a final point, Vanguard is the largest money manager, and they have a patent on a hybrid mutual fund/ETF system that allows their mutual funds to have the same tax advantages of the ETF. So at Vanguard it makes no difference. Once that patent expires, it’ll make less of a difference at other firms too.