Using Vanguard Funds to Compare ETFs to Index Mutual Funds

As ETFs become increasingly popular, it is valuable to compare performance between ETFs and Mutual Funds.

There are many types of Mutual Funds but for this analysis, we are going to split them into index and managed funds. Index funds have lower expenses and with research stating that indexed funds beat most managers in the long run, they make a lot of sense. However, if you have well managed mutual funds, you can beat the market and so it's important to select your mutual fund wisely.

ETFs are have very low management fees and are predominantly index based. However, they have a shorter history and there is potential for losses to occur during trades if there is trading friction and the price fluctuated durign the day -- soemthign that doesn't happen with Mutual Funds.

In this study, we compare Vanguard's all index investor class mutual funds with their commission free ETFs. Note that this analysis assumes that there is no cost for performing the actual trades.

The  Vanguard All Index Funds Investor Class consists of 29 funds. These funds enable participants to gain exposure to 5 major assets: US Equity, Foreign Equity, Emerging Market Equity, REITs, Fixed Income.

The Vanguard ETF plan consists of 43 funds. These funds enable participants to gain exposure to 5 major assets: US Equity, Foreign Equity, REITs, Emerging Market Equity, Fixed Income.

As of Feb 17, 2011, this plan investment choice is rated as average based on MyPlanIQ Plan Rating methodology that was designed to measure how effective a plan's available investment funds are. It has the following detailed ratings:

We note that the two funds run neck and neck in the ratings except in portfolio building. This is explained more pnthe Plan Rating methodology page.

We now compare historical performance of the two plans

Performance chart (as of Feb 18, 2011)

Performance table (as of Feb 18, 2011)

We note:

• The results are similar. The SAA strategy of the ETF plan beats the index plan and the TAA of the Index plan beats the ETF plan
• The further we travel back in time, the fewer choices we have in the ETF plan because some of the ETFs are relatively new
• We would expect the ETF plan to continue to improve with time as trading volumes increase and more choices become available

Our conclusion is that if you are looking for index funds, ETFs are the wave of the future and will allow you to have more choices and build higher performance portfolios. For example, the TD Ameritrade commission free ETF plan has good returns

Disclosure:

MyPlanIQ does not have any business relationship with the company or companies mentioned in this article. The performance data of portfolios mentioned above are obtained through historical simulation and are hypothetical.

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