Mutual Funds For Dummies. Eric Tyson

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      Identifying the best ETFs

      The vast majority of investors don’t need to complicate their lives by investing in ETFs. Use them if you’re a more advanced investor who understands index funds and you have found an ETF that’s superior to an index fund you’re interested in or use a highly suitable and well-established ETF as a long term core position. But do not use ETFs to make short term bets, which is a fool’s game.

      BEWARE OF “FINANCIAL ADVISORS” IN LOVE WITH ETFs

      I began work as a financial advisor in 1990. I was just about the only practitioner at the time who worked solely on an hourly basis. Most of the fee-based advisors at that time managed their clients’ portfolios by using mutual funds. I was struck by the fact that many advisors didn’t use or recommend low-cost index funds. In speaking with some of these advisors, I got the sense that they were somewhat threatened by index funds because the investing process was so simplified that clients might question the value in paying the advisor an ongoing fee of about 1 percent to manage their money among funds.

      Interestingly, some advisors now boast that they use ETFs as the investment vehicle to manage their clients’ portfolios. Ironically, they crow about the low cost of ETFs. Why do some advisors now embrace and tout ETFs when they didn’t advocate index funds? ETFs are complicated, and advisors feel safer using them and don’t worry as much about having clients feel that they could do this on their own. Advisors who charge ongoing management fees while using ETFs aren’t performing low-cost investment management. If the ETFs they’re using average about 0.5 percent in annual fees, paying the advisor 1 percent per year on top of that to shift your money around among various ETFs triples your total costs! See Chapter 23 for how to find a good advisor.

Be sure to check whether the ETF you’re considering is selling at a premium or discount to its net asset value. (You can find this information on the ETF provider’s website after the market’s close each business day.) I strongly encourage you to employ the buy-and-hold mentality that I advocate throughout this book — don’t hop in and out of ETFs. You should also buy only the ETFs that track the broader market indexes and that have the lowest expense ratios. Avoid those that track narrow industry groups or single, smaller countries. See Chapters 11 through 15 for specific ETFs that I like for specific situations.

      

If you’re truly interested in investing in ETFs and you’re a more advanced investor, make sure you know which funds are the best ETFs. The best ETFs, like the best index funds, have low expense ratios. My top picks among the leading providers of ETFs include the following:

       Vanguard: Historically, Vanguard has been the low-cost leader with index funds and now has the lowest cost with its ETFs as well. So, if you’re interested in finding out more about ETFs, be sure to examine Vanguard’s ETFs. (www.vanguard.com; 800-662-7447)

       iShares: BlackRock has competitive expense ratios on some domestic ETFs based on quality indexes, such as Russell, Morningstar, S&P, Lehman, and Dow Jones. (www.ishares.com; 800-474-2737)

       State Street Global Advisors SPDRs: This group uses indexes from Dow Jones, S&P, Russell, and MSCI, among others. (www.ssgafunds.com; 866-787-2257)

Mimicking Closed-End Funds: Unit Investment Trusts

      Unit investment trusts (UITs) have much in common with closed-end funds (see Chapter 2). UITs take an amount of money (for example, $100 million) and buy a number of securities (such as 70 large-company U.S. stocks) that meet the objectives of the UIT. Unlike a closed-end fund (and mutual funds in general), however, a UIT does not make any changes to its holdings over time — it simply holds the same, fixed portfolio. This holding of a diversified portfolio can be advantageous because it reduces trading costs and possible tax bills.

      

With that said, UITs do suffer from the following major flaws:

       Significant upfront commissions: Brokers like to push UITs for the same reason that they like to pitch load mutual funds — for the juicy commission that they ultimately deduct upfront from your investment. Commissions are usually around 5 percent, so for every $10,000 that you invest into a UIT, $500 goes out of your investment and into the broker’s pocket. Although UITs do have ongoing fees, their fees tend to be lower than those of most actively managed mutual funds — they’re typically in the neighborhood of 0.2 percent per year. As an alternative, you can buy excellent no-load funds (see Chapter 7), which, because you’re buying the fund directly from an investment company and without the involvement of a broker, charge you no commission. The best no-load funds also have reasonable management fees, and some charge even less than UITs charge (such as the index funds that I discuss in Chapter 10).

       Lack of liquidity: Especially in the first few years after a particular UIT is issued, you won’t readily find an active market in which you can easily sell your UIT. In the event that you can find someone who’s interested in buying a UIT that you’re interested in selling, you may have to sell the UIT at a discount from its actual market value at the time.

       Lack of ongoing management oversight: Because UITs buy and hold a fixed set of securities until the UIT is liquidated (years down the road), they’re more likely to get stuck holding some securities that end up worthless. For example, compared to the best bond mutual funds (see Chapter 12), bond UITs have had a greater tendency to end up holding bonds in companies that go bankrupt.

Customizing Your Own Funds Online

      On some websites, various services pitch that you can invest in a chosen basket of stocks for a low fee — and without the high taxes and high fees that come with mutual fund investing. Like most political “Vote for me and not my opponent” ads, these services misrepresent both their own merits and the potential drawbacks of funds.

      These “create your own funds” services pitch their investment products as a superior alternative to mutual funds. One such service calls its investment vehicles folios, charging you $29 per month ($290 if paid annually) to invest in folios, each of which can hold a few dozen stocks that are selected from the universe of stocks that this service makes available. The fee covers trading in your folios that may only occur during two time windows each day that the stock market is open. The folio service states that orders that are placed between 11 a.m. and 2 p.m. are processed starting at 2 p.m.; orders that are placed between 2 p.m. and 11 a.m. are processed starting at 11 a.m.

      So in addition to the burden of managing your own portfolio of stocks, you have virtually no control over the timing of your trades during the trading day. (You can place traditional orders at whatever time the market is open, but you’ll be СКАЧАТЬ