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Which is better: owning conventional mutual funds or owning exchange-traded funds (ETFs)? You could use both to track the returns of particular market sectors, and both offer the advantage of instant diversification vs. owning individual stocks.
But ETFs are much easier to trade than mutual funds. Why? ETFs trade just like stocks. You can buy and sell them through any broker at any time during the day. You can sell them short, and you pay the same commissions that you would for regular stocks. Further, ETFs require no minimum investment and there is no minimum holding period. In fact, you could buy an ETF at 11:00 AM and sell it at 11:01 AM.
By contrast, not all brokers allow you to trade every mutual fund. Instead, the availability and trading costs vary with the deal your broker has negotiated with the fund company. Further, most mutual funds specify minimum initial investments and minimum holding periods before you can sell. Finally, regardless of when you place your buy or sell order, all mutual fund trades are only executed once a day, after the market closes.
Nevertheless, in theory, mutual funds should produce better returns. Most funds are actively managed by professionals who can react to changing market conditions. By contrast, most ETFs track fixed indexes that can only be modified quarterly, at best.
So, what really happens? To find out, I picked a few currently hot market sectors and compared the returns of the best performing (based on 12-month returns) mutual funds and ETFs focusing on those sectors. Here’s what I found:
- Semiconductors manufacturers are on a roll. iShares PHLX Semiconductor ETF (ticker SOXX), the best ETF, returned 56% over the past 12-months. Longer-term average annual returns were 23% for three years and 20% over five years. Fidelity Select Semiconductors (FSELX), the best mutual fund, came close, returning 50% over 12-months, and 24% and 19% over three- and five-years.
- Checking the entire tech sector, ETF Guggenheim S&P 500 Equal Weight Technology (RYT) and mutual fund T. Rowe Price Science & Technology (PRSCX), both scoring 34% one-year returns, were tied. Longer term, Guggenheim did slightly better, returning 16% and 17% annually over three and five years compared to 14% and 15% for TR Price.
- In the financial arena, regional (small) banks are hot. In that sector, iShares US Regional Banks ETF (IAT) sizzled, returning 49% over 12-months. The best mutual fund Emerald Banking and Finance (HSSAX), returned 38%. However, over three- and five-years, Emerald Banking did better, returning 16% and 21% compared to 14% and 18% for iShares.
- Finally, small-cap growth stocks are another hot sector. There, mutual fund Wilshire Small Company Growth (DTSGX) and Guggenheim S&P SmallCap 600 Pure Growth ETF virtually tied. Wilshire’s 12-month, and three- and five-year annualized returns were 31%, 10%, and 14%, compared to 32%, 9%, and 14% for Guggenheim.
That was hardly an exhausting survey and you might see different results by picking different sectors. Nevertheless, based on my findings, I don’t see any advantage to buying conventional mutual funds instead of ETFs.
For tips and information on the best utilities and dividend stocks from Harry Domash, please check out Dividend Detective.
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