Today’s investors face what seems like an ever growing variety of investment choices, with new mutual funds and new varieties of exchange traded funds (ETFs) continuing to arrive. Trying to make sense of these different products doesn’t have to be overwhelming. Here is what to expect and some factors to consider as you weigh your investment objectives.

Different products, different experiences

As you consider ETFs and open-ended mutual funds, it is important to recognize how the vehicles’ features can influence your experience. Buying and selling, pricing, disclosure, costs, holding period return, and tax implications can all be different (see a longer version of this article for a table that compares the different features of these products).

Which vehicle is right for an investor?

Typically, the best way for an investor to choose between investment vehicles is to accurately identify his or her personal investment horizon and objectives. Consider the following types of investors and their varied objectives.

Saving for a long-term goal

The convenience of being able to automatically invest a set amount each month from your paycheck or one of your accounts may be appealing if you have a long-term goal. This automatic feature may not be available on an ETF. With an ETF, you would have to manually place buy orders for each trade.

In this example, the availability of automatic investing could make a traditional open-ended mutual fund more appropriate to meet an investor’s goals.

Active trader

If you prefer to manage your own accounts and want the flexibility to trade during market hours to implement your preferred investment strategies, ETFs can offer flexibility. Similar to stocks, ETFs can be traded throughout the trading day and on margin. ETF investors also have the ability to set limit orders and sell short. Most open-ended mutual funds can only be purchased at their closing prices, or NAVs. ETFs offer daily holdings transparency, allowing investors to review holdings and monitor portfolio risk exposures more frequently than with traditional open-ended mutual funds.

In this example, ETFs may satisfy an investor’s need for more trading flexibility and holdings transparency.

Retirement investor

Investors with a long-term view may prefer funds that offer professional active management and might not want to devote a lot of time to worrying about the intricacies of an active trading strategy. And they also want to avoid the potential of buying (selling) shares at a premium (discount). Many open-ended mutual funds are available with no loads, no commissions, and no transaction fees. Moreover, mutual funds are bought and sold at their NAV, so there are no premiums or discounts. While an ETF also has a daily NAV, shares may trade at a premium or discount on the exchange during the day. 1

In this example, a traditional open-ended mutual fund could be an investor’s preferred option due to its simplicity.

(Fidelity believes that workplace savings plan participants seeking passive market exposure should weigh the features and benefits of index mutual funds and index ETFs carefully. The potential features an investor may experience when holding index ETFs—tax advantage, intraday trading, trading at a premium or a discount to NAV—tax advantages are not meaningful to 401(k) investors and intraday trading and trading at a potential premium/discount to NAV may not be in line with sound retirement planning practices.)

Investors in a high tax bracket

Investors in high tax brackets may be interested in investments that offer tax efficiency for their taxable assets. In this scenario, if an investor finds that an open-ended index mutual fund and an index ETF are similar relative to his or her investment objectives, the passively-managed ETF, in general, has the potential to be more tax efficient than the index mutual fund. Actively managed fixed-income ETFs, as well as some actively managed equity ETFs also share these same potential tax advantages versus actively-managed mutual funds. 2 However, we caution investors against making long-term investment decisions based solely on any potential tax benefits. Investors should evaluate how a potential investment option fits with their time horizons, financial circumstances and tolerance for market volatility.

In this example, an investor may choose ETFs to take advantage of the potential for a greater degree of tax efficiency.

Summary

While mutual funds and ETFs are different, both can offer exposure to diversified baskets of securities and can be good vehicles to help meet investor objectives. What is important is for investors to pick the best choice for their specific investing needs, whether an ETF, an open-ended mutual fund, or a combination of both.

Here are some points to consider when weighing vehicle options:

• Is the ability to execute fund trades at prevailing prices throughout the trading day important? Consider ETFs.
• Is there a preference for trading a fund at NAV without paying a load and avoiding the potential of paying a premium at purchase (discount at sale)? Consider no-load mutual funds.
• Is the flexibility of trading on margin important? Consider ETFs. 3
• Is dollar cost averaging part of an investment strategy? Consider mutual funds.
• Is it important to know a fund’s holdings each day? Consider ETFs.
• Make sure to consider the expenses related to any investment vehicle.
• Do the benefits of both ETFs and mutual funds have the potential to help meet investment goals? Consider building a portfolio incorporating both types of vehicles to gain exposure to different asset classes.

Learn more

• Research ETFs and learn more about Fidelity’s actively managed fixed-income ETFs.

Views expressed are as of the date indicated, based on the information available at that time, and may change based on market and other conditions. Unless otherwise noted, the opinions provided are those of the authors and not necessarily those of Fidelity Investments or its affiliates. Fidelity does not assume any duty to update any of the information.

*Although actively managed mutual funds and ETFs have the potential to outperform an index, this is not guaranteed and the funds may trail the index.

ETFs are subject to market volatility and the risks of their underlying securities which may include the risks associated with investing in smaller companies, foreign securities, commodities and fixed income investments. Foreign securities are subject to interest rate, currency- exchange rate, economic and political risk all of which are magnified in emerging markets. ETFs that target a small universe of securities, such as a specific region or market sector are generally subject to greater market volatility as well as the specific risks associated with that sector, region or other focus. ETFs which use derivatives, leverage, or complex investment strategies are subject to additional risks. The return of an index ETF is usually different from that of the index it tracks because of fees, expenses and tracking error. An ETF may trade at a premium or discount to its Net Asset Value (NAV). The degree of liquidity can vary significantly from one ETF to another and losses may be magnified if no liquid market exists for the ETF’s shares when attempting to sell them. Each ETF has a unique risk profile which is detailed in its prospectus, offering circular or similar material, which should be considered carefully when making investment decisions.

Short selling and margin trading entail greater risk, including but not limited to risk of unlimited losses and incurrence of margin interest debt, and are not suitable for all investors. Please assess your financial circumstances and risk tolerance prior to short selling or trading on margin.

Fidelity does not provide legal or tax advice. The information herein is general in nature and should not be considered legal or tax advice.

Consult an attorney or tax professional regarding your specific situation.

Investment decisions should be based on an individual’s own goals, time horizon, and tolerance for risk.

Past performance is no guarantee of future results.

Neither asset allocation nor diversification ensures a profit or guarantees against a loss.

1. An ETF that is trading at a premium has a market price higher than its NAV; therefore, an investor would pay more for the ETF than its holdings are actually worth. And if an ETF is trading at a discount, its market price is lower than its NAV, so the investor would buy the ETF for less than the value of its holdings.

2. Regular ETF investors trade shares with other investors through the stock exchange instead of with the fund. As a result, many investor trades do not trigger transactions in the fund, which could result in capital gains. If an investor sells in a traditional open-ended mutual fund, the transaction is between the investor and the fund, which may create the need for the portfolio to sell securities to raise the cash needed to meet the redemption, which may trigger a capital gain for all the mutual fund’s shareholders.

3. Certain ETFs are not marginable until 30 days from settlement.

Third-party marks are the property of their respective owners. All other marks are the property of FMR LLC.

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