Today’s advice is simple: You need to call your broker and sell your mutual funds right now.
Don’t worry. We aren’t on the brink of catastrophe. I don’t believe the stock market is going to collapse.
But there is NO reason you should own any mutual funds today… or any other time for that matter. Selling your mutual funds will easily save you a hundred thousand dollars or more over your investing career.
Let me explain…
Most 401k plans invest exclusively in mutual funds.
Mutual funds are popular because they allow investors a “one click” way to buy a large pool of stocks or bonds… which makes for safer and easier long-term investing.
But there is one simple problem: mutual funds are inefficient.
They charge high fees (called “expense ratios”). And you can end up on the hook for taxes, even if you don’t realize any gains.
Fortunately, there’s a way better way to invest…
Exchange-traded funds (ETFs) trade just like stocks. You can easily buy them through any online brokerage. And, like mutual funds, they’re easy to buy and they offer diversification.
ETFs also have two major advantages over mutual funds:
- ETFs charge lower expense ratios.
- ETFs are more tax-efficient.
Mebane Faber of Cambria Investment Management is a great number-cruncher. My colleague Steve Sjuggerud says Meb is “a go-to source for good homework. And one of the smartest guys I know.”
Recently, Meb crunched the numbers of ETFs versus mutual funds. He found major differences between the fees mutual funds charge and the fees ETFs charge. Take a look…
Passive funds track an index, like the S&P 500. Active funds have managers that select investments (like a value fund that only buys cheap stocks, for example).
As you can see, ETFs have much lower expenses than mutual funds. According to Meb’s research, ETFs offer an overall fee advantage of 0.3%-0.6% a year.
The tax benefit of ETFs is even greater…
You see, in both mutual funds and ETFs, fund managers buy and sell stocks or bonds. Even a fund that tracks an index – like the S&P 500 – will have to buy and sell based on what the index does. (The S&P 500 can change its holdings dozens of times a year.)
Whenever a security sells for a profit in a mutual fund, the U.S. government wants its cut. So often, mutual funds pay capital gains at the end of the year. And you’re on the hook for the tax bill.
ETFs use a different structure. It allows them to buy and sell whatever they want without worrying about capital gains taxes. You only pay taxes when you sell the ETF.
Meb also crunched the numbers to figure out what this means for investors. His conclusion: ETFs offer tax savings of 0.3%-2.0% a year over mutual funds.
When you combine the tax and fee savings, Meb estimates ETFs save up to 2% a year over mutual funds.
That might not seem like much. But over a lifetime of investing, it quickly adds up…
Let’s say we invest $10,000 a year in the stock market. Stocks have returned 10.6% a year over the last 60 years. If we achieve the same return over the next 20 years, our $10,000 annual investments will grow to $613,000.
However, if we pay 2% a year in fees and taxes, we’ll only net 8.6% a year. In that case, our $10,000 investments will grow to $489,000.
Said another way, investing in mutual funds instead of ETFs could cost you $124,000 over 20 years.
Of course, the longer you have to invest, the more amplified the result. Over a 40-year period, the cost of choosing mutual funds over ETFs is over $2 million.
Today, thousands of ETFs are available. They are easy to buy and sell. And they cover almost any investing strategy you can dream up.
The best way to start searching for ETFs is the “ETF encyclopedia.” Once you find an ETF, check out the issuer’s website to get the full details. iShares, State Street, and PowerShares are three of the largest ETF providers.
Take a look at your mutual fund holdings today. If you’re paying a high expense ratio or capital gains tax even if you’re not selling your holdings, get out of those funds and into ETFs.
It’s a simple solution that could save you hundreds of thousands of dollars.
Source: Daily Wealth