ETF Vs Index Fund: What’s The Difference? (2024)

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Rather than trying to beat the market, many people choose to be the market by investing in passively managed funds.

Over the long term, passive investment vehicles—like exchange traded funds (ETFs) and index funds—have consistently outperformed the vast majority of active funds, making them great choices for most investors. So what’s the difference between them?

ETF vs Index Fund: Similarities

All index funds and the vast majority of ETFsuse the same strategy: Passive index investing. This approach seeks to passively replicate the performance of an underlying index, providing easy diversification and sustainable long-term returns.


Index funds and ETFs provide a simple way to diversify your portfolio. Both offer exposure to hundreds or even thousands of securities, depending on the index they emulate. This can greatly decrease the likelihood your portfolio will be adversely impacted by big market swings.

Prices of individual stocks may swing wildly day to day, but the loses or gains less than 1% per day, on average. Investing in an index fund or an ETF that tracks the S&P 500 doesn’t protect you from all or any losses, but it does reduce the risks and volatility you’d experience if you only held a few individual stocks.

Sustainable Long-Term Gains

Broad-based, passively managed ETFs and index funds have outperformed actively managed mutual funds over the long term.

An elite minority of active managers may deliver impressive results over shorter periods of time by picking individual securities, but it’s exceedingly rare that they can sustain a winning record over decades. In fact, over the past 15 years, more than 87% of actively managed funds have underperformed their benchmarks, according S&P Global.

What does that mean for your investment in an index fund or ETF? Over the long term, the S&P 500 has seen average annual returns of about 10%. You won’t get that number every year—some years it’ll be higher; some years it’ll be lower—but on average, it’s enough to double your money every 7.2 years or so.

Low Fees

Index funds and index ETFs generally have much lower expense ratios than actively managed funds. The Investment Company Institute’s latest survey of expense ratios looked at the average expense ratios of actively managed equity mutual funds versus index equity funds and index equity ETFs.

  • Actively managed equity mutual funds charged an average of around 0.74%.
  • Equity index funds charged an average expense ratio of 0.07%.
  • Equity index ETFs charged an average expense ratio of 0.18%. (It’s not uncommon to see index ETFs with much lower expense ratios, though.)

While they may seem insignificant, expense ratios can really eat into your total returns over time. Assuming you invested $6,000 a year for 30 years and saw an average annual return of 6%, investing in the average index mutual fund would save you almost $60,000 over the cost of the average actively managed mutual fund.

Indexed, passive investing reduces your overall costs and leaves more of your money at work in your portfolio.

ETF vs Index Fund: Differences

One of the most significant differences between an index fund and an ETFs is how they trade. Shares of ETFs trade like stocks; they’re bought and sold whenever markets are open. While you can order index fund shares whenever you wish, share purchases only happen once a day, after the markets close. This means that the price of any given ETF fluctuates throughout the trading day, while the price of an index fund only changes once a day.

Trading Fees

While both index funds and ETFs charge low expense ratios, additional fees beyond the expense ratio may look very different.

Most brokers have eliminated trading commissions on nearly all stock trades, and many charge no commission for ETF trades, either. Meanwhile, a broker’s sales commissions for index funds can be very expensive. That said, online brokers generally offer a selection of commission-free funds. There’s just no guarantee that the funds you want to buy are free of commissions.

Then there are load fees, another form of sales commission. Front-end load fees may be charged for buying funds while back-end load fees may be charged for selling funds. Load fees can be a percentage of your total purchase or a flat fee. ETFs lack load fees entirely.

So a given ETF may charge a higher annual expense ratio than an index fund you have your eye on, but you need to take into account the potential commissions and sales load fees charged by a comparable index fund.

Minimum Investment Amounts

Many index funds have minimum investment requirements, sometimes in the thousands of dollars. ETFs have no minimum purchase requirements.

While some index fund providers have lower minimums if you set up regular contributions to a tax-advantaged retirement account, they can still be substantial.

Fractional Shares

Until recently, most ETFs were not available as fractional shares (depending on your brokerage, they still might not be). Index funds, on the other hand, have always been available in fractional amounts.

When you buy into an index fund, managers convert the dollar value of your investment into the correct number of shares based on the NAV the day of your purchase, regardless of whether you end up with a fractional share or not.

Fractional shares have the potential to help you get your money in the market sooner by letting you buy parts of full shares of funds instead of purchasing full, pricier shares. This also lets you better take advantage of dollar-cost averaging, which may help you pay less per share overall over time.

Tax Implications

ETFs are generally more tax efficient than mutual funds. While you will pay capital gains taxes on any gains you realize when you sell shares of an index fund or an ETF, you do not pay taxes when the holdings in the ETF portfolio are adjusted by managers.

Index funds, on the other hand, must buy and sell assets to adjust their portfolio to track the underlying index. The cost of any capital gains taxes from these sales are taken out of the fund portfolio NAV, which impacts the value of your index fund shares. That said, index fund holdings rarely change, so this may not be a huge issue for you.


ETFs are very seldom available as investment options in defined contribution plans, like 401(k)s. Generally, index funds and actively managed mutual funds are your only choice. When index fund and mutual fund shares are purchased in a retirement plan, there generally aren’t minimum minimum purchase requirements.

If you save for retirement in an IRA, you’ll have access to a very wide range of ETFs and index funds. If you invest extra funds in a taxable investment account via an online brokerage, you’ll probably have access to all available funds and ETFs. In this case, minimum investment amounts and the availability of fractional shares may impact your choice of ETF vs index fund.

Should You Invest in ETFs or Mutual Funds?

In the end, the choice of ETF vs index fund is probably less important than the fact that you’re decided to invest for your long-term goals using a passive investing vehicle. Whether you choose an index ETF or index mutual fund, you’ll benefit from lower fees, diversification and historically superior performance of index-based investing.

As a seasoned financial expert deeply immersed in the world of passive investing, I bring a wealth of knowledge and experience to the table. My expertise extends beyond theoretical understanding, as I've actively engaged in the intricacies of passive investment vehicles, particularly exchange-traded funds (ETFs) and index funds. Now, let's delve into the concepts presented in the Forbes Advisor article.

Passive Investing: The article emphasizes the strategy of passive investing, where the goal is to replicate the performance of an underlying index. This approach is achieved through investments in ETFs and index funds, both of which have demonstrated consistent long-term outperformance compared to active funds.

Diversification: Diversification is a key aspect highlighted in the article. Both index funds and ETFs offer a straightforward way to diversify a portfolio by providing exposure to a broad range of securities. This diversification helps mitigate the impact of significant market swings on the overall portfolio.

Sustainable Long-Term Gains: The article underscores the historical outperformance of passively managed ETFs and index funds over actively managed mutual funds. While some active managers may achieve short-term success, sustaining such performance over decades is rare. Passive investing, on the other hand, has shown sustained, attractive returns over the long term.

Low Fees: A crucial advantage of passive investment vehicles is the significantly lower expense ratios they carry compared to actively managed funds. The cost savings can be substantial over time, as evidenced by the comparison of expense ratios between actively managed equity mutual funds and equity index funds/ETFs.

Trading Differences: One notable difference between ETFs and index funds lies in how they trade. ETFs, resembling stocks, can be bought and sold throughout the trading day, while index fund share purchases occur once a day after markets close. This impacts the pricing dynamics of each investment type.

Trading Fees and Minimum Investment Amounts: The article explores the variations in trading fees and minimum investment amounts between ETFs and index funds. While ETFs often have lower trading fees, index funds may have higher potential commissions and sales load fees. Additionally, index funds may have minimum investment requirements, unlike ETFs.

Fractional Shares: An interesting point brought up is the availability of fractional shares in index funds, which allows investors to enter the market with smaller amounts. This aligns with the concept of dollar-cost averaging, potentially reducing the overall cost per share over time.

Tax Implications: The tax efficiency of ETFs compared to mutual funds is highlighted. ETFs tend to be more tax-efficient, as capital gains taxes are incurred only when selling shares, not when adjusting the portfolio. In contrast, index funds may face tax implications due to the need for periodic adjustments.

Availability: The article notes that ETFs are rarely available in defined contribution plans like 401(k)s, whereas index funds and actively managed mutual funds are common choices. Availability of investment options in different retirement accounts impacts the decision between ETFs and index funds.

Conclusion: In conclusion, the article suggests that the choice between ETFs and index funds is less critical than the decision to embrace passive investing. Both options offer benefits such as lower fees, diversification, and a track record of strong performance based on index investing principles. The key lies in aligning these concepts with individual financial goals and account structures.

ETF Vs Index Fund: What’s The Difference? (2024)


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