How ETFs Empower Investors

The Major Difference Between ETFs and Mutual Funds

The biggest difference between exchange traded funds, or ETFs, and their cousin mutual funds isn’t that ETFs are traded on exchanges where mutual funds are not. It isn’t the fact that ETFs are more tax efficient. It’s not that ETFs have lower management fees.

The biggest difference between the two is that ETFs require the full involvement of the investors where mutual funds do not. With mutual funds, the level of involvement with most mutual fund investors is practically nil, other than perhaps their propensity to complain when the value of their investments dip too much, or when the performance of their funds disappoint them.

A certain level of empowerment is actually required in order to invest in ETFs, unlike mutual funds where sales people simply sell them to you, with no involvement or knowledge required other than the skill of being able to say yes and signing your name on the paperwork.

How ETFs Empower InvestorsBeing more involved is not necessarily a good thing, and like investments, it has the potential to do good or harm. There is no hand holding with ETFs, and no one to provide you any advice at all actually, as it is all on your shoulders.

On the other hand, the thing that holds investors back more than anything is their unwillingness to participate at all in the management of their own investments. Although the degree of involvement with ETFs need not be anything more substantial than opening a trading account and placing some trades, such as for an index ETF, the very fact that investors know about such things and also know what to buy and how to do it takes them well beyond the average investor already.

At a minimum, investors will have the reigns of their portfolio in their hands, where there is no longer a middleman, a buffer between themselves and their investments, their advisors. When you trade ETFs, you are your own advisor, and while you may seek advice from elsewhere, you are now in charge totally.

Many Investors Do Wish They Were More Involved

In spite of how popular mutual funds have been over the years, there has always been a significant percentage of investors who have yearned for the ability to manage their own affairs more. Perhaps these people have researched mutual funds somewhat, perhaps they are prone to even choosing their own funds, although that sometimes doesn’t go so well.

Some may even keep some money on the side where they choose their own stock plays, although typically they don’t really know anywhere near enough about how to do this to have these ventures really doing much for them over time.

Perhaps an investor may have gotten lucky by trading some stocks during a bull market. Bull markets have a tendency to make a lot of people feel that they are good at this game, although during these periods you often could pick just about anything and do pretty well with it, because that’s what happens in bull markets.

This is especially the case if people are looking for longer term holdings, such as most investors tend to do, and when things are going well with the market it can seem all too easy.

Once things pull back though, as they always do, this is what separates the performers from the pretenders, the pros from the amateurs. What do you do now?  Should you hold on to these investments a while longer, perhaps a lot longer, or should you step aside and sell?

There’s actually a lot of skill in managing investments during bull markets as well, although the difference in this case is with achieving better performance rather than what is actually mediocre, but amateurs don’t really know the difference and don’t know just how much you can beat the market by if you actually know what you are doing.

When the bear markets hit though, this is where the real challenges occur, and while it’s pretty easy to hold something when it is going up, deciding what to do when it’s going the other way is usually a different matter.

The real problem here is that these investors are really investing without a good plan, or usually not even a plan at all. The time to ponder what to do if your investments go down isn’t after it happens.

So, while many investors want to be more involved, they simply lack the proper knowledge to do so, and in order to get that knowledge, they need to start somewhere.

ETFs At Least Get the Discussion Going

Timing stocks or timing mutual funds, or timing anything, does require an understanding of how securities behave. This may be at least somewhat intuitive, but one cannot rely on intuition alone, and only rely on it in part after many years of experience, at a level limited to professionals since this does require years of applying yourself full time to the markets, not just a little on the side.

ETFs open the door to investor education, because a little education is a prerequisite of even being able to trade ETFs. If you asked a lot of investors if they were considering switching from mutual funds to ETFs, many would tell you that they have to go out and learn about ETFs first and why that might be worth considering.

Others may say that they don’t think it’s a good idea, out of ignorance, using such reasons as mutual funds are run by pros or that ETFs are too risky or a number of other myths out there. The mutual fund industry has little shame for trying to muck up any attempts to deviate from just going with their funds and hanging on to them indefinitely, and ETFs are perhaps the biggest threat they have ever faced.

Once investors at least acquire a minimum of knowledge about ETFs, perhaps things like how index funds tend to be superior, and ETF index funds being the better choice overall over index mutual funds, and how they may go about acquiring ETFs, then the game is on so to speak.

Once they get away from an industry that goes all out to not have investors empower themselves at all, to one that is based upon investor empowerment, that alone will change the momentum in a lot of cases to create the desire to learn even more about self directing their portfolios.

A lot of fear has been created to look to counter these attempts, such as do you want to mess up your retirement, and you should not ever trust yourself to handle these things, but given that there need not be anything substantially different about ETFs and mutual funds if you don’t want there to be, this issue can be bridged fairly easily for a lot of investors.

Making Mistakes

The only substantial difference between the way most people invest in mutual funds, through a third party agent, an advisor if you will, and the way ETFs are traded, is the buffer that the agent creates. You may have to go down to the bank or meet with your agent to make changes, and they may and often will try to talk you out of it, where with ETFs there is no such buffer.

Many people place mutual fund trades online these days though, so it’s not even that you can’t arm yourself with your computer mouse and do your own thing with them as well. However, the experience of having the power to place your own trades, and the ease that they can be placed, is not something everyone is comfortable with or should be.

If an investor tends to be too impulsive, trading ETFs that way, or trading anything impulsively for that matter, is a horrible idea. What results is haphazard trades that are driven primarily, if not exclusively, by emotion, and trading on emotion is a disastrous strategy.

However, people who hold traditional mutual funds do tend to be driven by emotion as well, and face situations that they aren’t prepared with and make mistakes like this as well. If you are upset, it’s really not that much more difficult to place trades through a dealer than it is to do it yourself, when you are driven to do so.

Making investment and trading decisions based upon emotion is by far the biggest cause of mistakes and is the primary reason why people make them, whether they are investing or trading. Proper investing and trading needs to be based upon a sound rationale, and when we are excited or upset, sound thinking usually gets cast aside in favor of acting impetuously.

Accepting Responsibility

While there is a little more risk of this happening when you control the mouse, by being a little more exposed to this risk, one also tends to have the opportunity to improve. If mistakes are made and one is in charge, one is much less prone to blame others, and must accept the responsibility themselves.

This is probably the biggest thing that allows ETFs to empower investors, as it empowers them to at least be thinking that they are contributing to whatever happens. Many investors will still blame external factors, as this is a hard habit to break, but it is easy to break this when you’re actually playing more of a role in the process.

The problem with not taking the proper level of responsibility is that when we don’t, we don’t look to make the changes that are needed to improve our trading and investing. If it is your fault, and you blame something else, this takes the focus off of your needing to change, and the need is always there when you mess up.

Mutual fund investors almost never take the blame for anything, as they can just blame their advisors, the fund, the market, and pretty much anything else when things don’t go as well as they would like.

ETF investors at least can’t blame the advisor, since they are the ones doing this now, and that alone accounts for most of the blame that is made by investors,  If they blame the ETF, well they picked it, so that comes back on them as well, or at least should.

The market will always take a lot of blame among investors though, but by taking a more active role in managing things, they may at least be better prepared to realize that the market is what it is, and their role is to manage it as best they can.

As ETF investors progress, they may also end up realizing more how much they actually don’t know, and this may inspire them to at least go out and learn more about how this all works and how to be successful at it.

The big knock against the way most people approach investments is that they are completely passive. Looking to manage things completely passively is actually a contradiction as this means managing by not managing.

By being at least a bit more active with ETFs, they at least are taking a small step towards actually looking to take control of their investment destiny more.

Ken Stephens

Chief Editor,

Ken has a way of making even the most complex of ideas in finance simple enough to understand by all and looks to take every topic to a higher level.

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