Much like buying a set of wheels, choosing the best investment vehicle can depend on one's means and station in life. But whatever vehicle is needed, whether for supercharged performance or a smooth ride, exchange traded funds have enough flexibility to get both the younger set and older investors where they want to go.
ETFs have been on the road only as long as the current generation of young adults. And for these millennials, the funds can fit their investment needs nicely.
"I think ETFs are a great way to capture the market and at the same time do it in a low-cost and efficient way," says Sophia Bera, the founder of Minneapolis-based Gen Y Planning, which advises millennials in the 25-35 age range.
Similar But Different
With broadly diversified baskets of stocks, bonds and/or futures, ETFs are similar to index mutual funds, but they trade throughout the market day like stocks.
Bera's young clients often come to her with a large amount of cash but also with large uncertainty about the basics of planning for retirement -- how much of the cash they should earmark for emergency savings and how much to invest in a retirement or brokerage account.
In most cases, Bera will use ETFs to construct a portfolio. She notes that discount brokerage firms such as Scottrade allow her to trade an ETF for as little as $7 -- much less than the commissions that some mutual funds charge.
Similarly, the management expenses of ETFs are typically much lower than those of mutual funds. The average expense ratio of 0.58% for ETFs is far lower than the 1.11% for mutual funds, according to 2012 data cited by Vanguard Group.
For Ann Minnium, a principal at Concierge Financial Planning in New Jersey, the standout feature of ETFs is their versatility. While both ETFs and mutual funds can provide a diversified portfolio of stocks and bonds, mutual funds tend to have high-dollar minimums.
"With ETFs, you can buy (just) one share," she says. The low barrier to entry is a main draw of ETFs, especially for the young, but Minnium notes that older investors have as much to gain.
ETFs are more tax-efficient than comparable mutual funds, because of their low turnover and the way they are structured. These features matter to those in their 40s and beyond.
And for clients who have reached retirement, Minnium's strategy involves fixed-income ETFs with fixed maturity dates. They allow her to "stack" ETFs that mature in two to four years, thereby supplying a retiree with stable income.
Versatility Feeds Growth
Their appeal to different age groups has contributed to ETFs' surge in demand in recent years. The number of ETFs has grown from 102 in 2001 to 1,337 with total net assets of more than $1.7 trillion, according to the Investment Company Institute.
The decision about whether to invest in equities through an ETF or mutual fund, or how to allocate resources among these asset classes, rests on a few factors.
"It depends on the purpose of the account," Bera says. For a "stagnant portfolio" -- say, a rollover from an IRA -- to which money is not being added on a regular basis, she advises an ETF because of the low trading cost. But if it is an IRA account to which regular contributions are being made, she suggests a no-load mutual fund.
"The expense ratio may be a bit higher than with an ETF, but you don't have to pay that trading fee every month," she explains.
Keep in mind, though that most major brokerages offer some ETFs commission-free. TD Ameritrade , for example, has about 100 of them, though some restrictions do apply.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.