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Question:


I’m a beginner when it comes to investing. I’ve got money in an E-Trade account and I don’t know where to go from there. Do I go with ETFs or mutual funds or both?
-Liz Saulnier


Answer:


Exchange-traded funds and mutual funds both provide access to pretty much all types of assets, foreign and domestic. The main difference is that, with very few exceptions, only mutual funds are actively managed, meaning that choices are made continually about what investments to own in an effort to beat whatever index the managers measure themselves against, say the Standard & Poor’s 500 for stocks of large American companies. Most ETFs merely try to replicate the returns of an index. Analyzing markets and picking securities takes time and money, so actively managed funds tend to operate with higher costs, which are passed on to shareholders. The result is that while only actively managed funds can outperform, few of them do over long periods, and they tend to lag the returns of equivalent ETFs.

Before you devote a lot of time to the comparative merits of mutual funds and ETFs, consider that they’re merely investment vehicles. Stocks, bonds, real estate, gold and other commodities are the destinations that funds take you to. Getting those right – investing in the various markets at the right times and in the right proportions – is more important to long-term financial success than whether you buy them through one kind of fund or another. You should always have broad portfolio diversification because certain types of investments, notably stocks and government bonds, tend to do well in different economic environments, so their price movements are often minimally correlated. Having a broad mix is likely to reduce the overall price swings within a portfolio without sacrificing returns over the long haul.

When it comes to putting your money to work, it’s best to do it gradually through what’s known as dollar-cost averaging, which involves investing the same amount periodically, for instance every month or quarter. Averaging allows you to acquire assets at a lower average cost. Say you want to buy a particular fund and you put $100 a month into it. If the fund is $10 a share one month, your $100 will buy 10 shares. If the price drops to $8 the next month, you’ll pick up 12.5 shares with your $100. Another important benefit of averaging is that it enforces discipline. By adding to a portfolio regularly, you can build a sizable nest egg, possibly sooner than you expect.

-Conrad de Aenlle



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