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INVESTING ETFs vs Mutual Funds: What's the Difference and Whic... 2026-02-27 · 4 min read · ETF · mutual funds · index funds

ETFs vs Mutual Funds: What's the Difference and Which Should You Choose?

investing 2026-02-27 · 4 min read ETF mutual funds index funds Vanguard Fidelity investing basics

If you've started researching index fund investing, you've probably noticed that the same index — like the S&P 500 — often comes in two versions: a mutual fund and an ETF. Both own the same underlying stocks, but they're structured and traded differently. For most investors, the differences are minor. But understanding them helps you make the right choice for your situation.

What Is a Mutual Fund?

A mutual fund pools money from many investors and invests it in a collection of securities according to its stated objective. An S&P 500 mutual fund holds all 500 stocks in the S&P 500 index.

How trading works: Mutual funds price once per day — after the stock market closes. When you buy or sell, you transact at that day's closing price (called the Net Asset Value, or NAV), no matter when during the day you placed the order.

Minimums: Many mutual funds require minimum initial investments. Vanguard's Admiral Shares funds often require $3,000. Fidelity's index funds have $0 minimums. Schwab's are also $0.

Dividends: Most mutual funds automatically reinvest dividends for you, which makes compounding simpler.

What Is an ETF?

An ETF (exchange-traded fund) also holds a basket of securities — but it trades on stock exchanges like an individual stock, throughout the day at a real-time price.

How trading works: You buy and sell ETFs through a brokerage account during market hours. The price fluctuates throughout the day based on supply and demand (though it stays very close to the underlying asset value).

Minimums: You buy ETFs in share increments — usually $50-$500 per share depending on the ETF. Some brokers offer fractional shares, eliminating minimums entirely. Fidelity and Charles Schwab allow fractional ETF purchases.

Dividends: ETFs pay dividends as cash distributions. You can reinvest them manually, or use your broker's DRIP (dividend reinvestment plan) to automate it.

Key Differences Side by Side

Feature Mutual Fund ETF
Trading Once daily (end of day) Throughout the day
Minimums $0-$3,000 Price of 1 share ($0 with fractional)
Expense ratios Slightly higher on average Slightly lower on average
Tax efficiency Less efficient (capital gains distributions) More efficient
Auto-reinvestment Usually automatic Manual or via DRIP
Simplicity Simpler for beginners Slightly more complex

Tax Efficiency: The Real Advantage of ETFs

The most meaningful difference for taxable brokerage accounts is tax efficiency.

The mutual fund problem: When many investors sell a mutual fund, the manager must sell underlying stocks to meet redemptions. This triggers capital gains — and those gains are distributed to ALL shareholders at year-end, even ones who didn't sell anything. You can owe taxes on gains from stocks you never sold just because other investors in the fund sold.

The ETF solution: ETFs use an "in-kind" redemption mechanism. Large institutional investors (called authorized participants) can exchange ETF shares for the underlying stocks without triggering a taxable sale. This means ETFs almost never distribute capital gains. The tax event only happens when YOU sell your ETF shares.

In practice: If you're investing in a Roth IRA or 401(k), this difference doesn't matter at all — no taxes in those accounts. For taxable brokerage accounts, ETFs have a real advantage.

When Mutual Funds Make More Sense

Automatic dollar-cost averaging: If you want to invest exactly $200/month into an S&P 500 fund, mutual funds are easier — you just set up an automatic purchase for $200 exactly. With ETFs, you'd need to figure out how many whole shares that buys (unless your broker offers fractional shares and automatic ETF purchases).

Simplicity in 401(k) plans: Most 401(k) plans offer mutual funds, not ETFs. You don't have a choice here — use what your plan offers.

Fidelity's Zero-fee funds: FZROX and FZILX are mutual funds (not ETFs) with 0.00% expense ratios — literally no annual fees. This beats even the cheapest ETFs. If you're at Fidelity, these are hard to beat.

When ETFs Make More Sense

Taxable brokerage accounts: ETFs' tax efficiency is most valuable here. A Vanguard S&P 500 ETF (VOO) is better than an equivalent mutual fund in a taxable account.

When you want intraday trading: If you ever want to buy during a market dip or sell at a specific price, ETFs allow this. For long-term buy-and-hold investors, this doesn't matter much.

Lower expense ratios: ETFs like VTI (0.03%), VOO (0.03%), and SCHB (0.03%) are among the cheapest ways to invest. Some comparable mutual funds charge slightly more.

No broker restrictions: Some ETFs like VOO (Vanguard) or IVV (iShares) can be purchased commission-free at any major brokerage. Mutual funds sometimes have restrictions — Vanguard mutual funds can only be purchased without transaction fees at Vanguard itself.

The Most Popular Options Compared

For US total market exposure:

For S&P 500 exposure:

For international exposure:

The Bottom Line

For most investors — especially beginners — the difference between ETFs and mutual funds is smaller than you think. Both give you diversified, low-cost market exposure. A few practical rules:

Don't let the choice between ETFs and mutual funds delay you from investing. Pick one, start investing, and you'll be ahead of most people who are still "researching."