Ep 4: Beginner's Guide to Mutual Funds & ETFs

Welcome to the world of mutual funds and ETFs, where investing becomes accessible, diversified, and exciting! In this comprehensive beginner's guide, we'll demystify the concepts of mutual funds and ETFs, equipping you with the knowledge to make informed investment decisions.

Episode Equity

Breaking Down the Investment Giants: Mutual Funds and ETFs Demystified

What is a Mutual Fund?

Mutual funds are investment vehicles that offer individuals an opportunity to pool their money together with other investors. This pooling of funds allows for greater access to a diversified portfolio of stocks, bonds, or other securities. Professionally managed by experts known as money managers, mutual funds aim to generate returns for their investors.

What are ETFs (Exchange-Traded Funds)?

Exchange-Traded Funds, commonly referred to as ETFs, are another popular investment option. Like mutual funds, ETFs also provide investors with exposure to a diversified portfolio of securities. However, ETFs have a unique feature that sets them apart – they can be bought or sold on stock exchanges, just like individual stocks.

Why Mutual Funds and ETFs?

Investing in mutual funds and ETFs offers several advantages. Firstly, they allow investors to access a diverse range of securities, even with a relatively small investment amount. Additionally, they provide professional management expertise, allowing investors to benefit from the knowledge and experience of money managers. Lastly, mutual funds and ETFs offer the potential for long-term capital appreciation and income generation.

Investing on Autopilot or Taking the Wheel: Decoding Passive and Active Investment Styles

The Autopilot: Passive Investing

Passive investing involves constructing a portfolio that closely mirrors the performance of a specific market index, such as the S&P 500 or the Nasdaq. This approach aims to capture the overall market's returns rather than attempting to outperform it. Passive investors often rely on index funds or ETFs to implement their investment strategy.

The Pilot’s Fee: Expense Ratios

An important factor to consider when investing in mutual funds and ETFs is the expense ratio. The expense ratio represents the annual cost of operating the fund, including management fees, administrative expenses, and other operating costs. It is expressed as a percentage of the fund's assets. Generally, passively managed funds, such as index funds and certain ETFs, tend to have lower expense ratios compared to actively managed funds.

Understanding Benchmark Performance

In passive investing, the benchmark plays a crucial role. A benchmark is a specific market index that serves as a performance reference point. The goal of passive funds is to replicate the performance of the chosen benchmark. Investors assess the fund's success based on how closely it tracks the benchmark. For example, an S&P 500 index fund aims to closely match the returns of the S&P 500 index.

The Pilot Takes the Wheel: Active Investing

Active investing involves the selection and management of individual securities with the goal of outperforming the market or a specific benchmark. Active fund managers conduct research, perform analysis, and make investment decisions to generate returns that surpass the benchmark's performance. Active funds often have higher expense ratios due to the costs associated with research and active management.

Navigating the Investment Landscape: Discovering the Diversity of Fund Options

Stock Funds:

Stock funds, also known as equity funds, primarily invest in stocks or shares of companies. These funds can focus on specific sectors, such as technology, healthcare, or energy, or provide broad exposure to the overall stock market. Stock funds aim to generate capital appreciation over the long term.

Bond Funds:

Bond funds invest in fixed-income securities issued by governments, municipalities, or corporations. These funds aim to provide regular income through interest payments and potential capital appreciation. Bond funds come in various types, including government bonds, corporate bonds, municipal bonds, and high-yield bonds, each with its own risk and reward profile.

Index Funds:

Index funds track a specific market index, such as the S&P 500 or the Dow Jones Industrial Average. These funds aim to replicate the performance of the chosen index by holding a diversified portfolio of securities that match the index's composition. Index funds are passively managed and generally offer low expense ratios.

Balanced Funds:

Balanced funds, also known as asset allocation funds, aim to strike a balance between stocks and bonds. These funds typically hold a diversified mix of equities and fixed-income securities. Balanced funds provide investors with the potential for growth through stocks and income stability through bonds.

Money Market Funds:

Money market funds invest in short-term, low-risk securities, such as Treasury bills, commercial paper, and certificates of deposit. These funds offer stability and liquidity, making them suitable for investors seeking capital preservation and easy access to their funds.

International/Global Funds:

International or global funds invest in securities from companies located outside the investor's home country. These funds provide exposure to international markets and can focus on specific regions, such as Europe, Asia, or emerging markets. Investing in international funds allows for diversification across different economies and sectors.

Specialty Funds:

Specialty funds concentrate on specific themes, sectors, or strategies. Examples include real estate funds, healthcare funds, technology funds, or socially responsible funds. These funds offer targeted exposure to specific industries or investment themes that align with investors' preferences or beliefs.

Target Date Funds:

Target date funds, also known as lifecycle funds, are designed for investors with specific retirement dates in mind. These funds automatically adjust their asset allocation over time, gradually shifting towards a more conservative mix as the target date approaches. Target date funds offer a hands-off approach to retirement investing.

Decoding the Cost Factor: Unraveling the Fee Structure in Mutual Funds

Front-End Load Fees:

Front-end load fees, also known as sales charges or "load" fees, are charges imposed at the time of purchasing mutual fund shares. These fees are typically a percentage of the total investment amount and are deducted upfront from the investor's investment. Front-end load fees compensate the financial advisor or broker who sells the fund.

Back-End Load Fees:

Back-end load fees, also referred to as deferred sales charges, are fees incurred when redeeming mutual fund shares within a specific period. Unlike front-end load fees, back-end load fees are not deducted upfront. Instead, they are charged when the investor sells or redeems the shares, often on a declining scale over time. Back-end load fees compensate the fund company for distribution costs and can decrease over time, encouraging long-term investment.

Short-Term Redemption Fees:

Short-term redemption fees are charges imposed when investors sell or redeem mutual fund shares within a short period, typically within 30 to 90 days of purchase. The purpose of these fees is to discourage frequent trading and protect long-term investors from potential adverse effects caused by excessive short-term buying and selling activities.

It's important to note that not all mutual funds have load fees or short-term redemption fees. Some funds, known as "no-load" funds, do not charge front-end or back-end load fees, and they may have no or minimal short-term redemption fees.

Investor Considerations:

When evaluating mutual funds, it's essential for investors to consider the impact of these fees on their investment returns. Front-end load fees and back-end load fees reduce the initial investment amount or the proceeds received upon redemption. Short-term redemption fees discourage short-term trading and can affect the liquidity of the investment.

Investors should also review the fund's prospectus to understand the specific fees associated with the fund, including expense ratios, management fees, and any other fees that may apply.

Profiting from the Fund's Garden: Exploring the Returns of Mutual Fund Investing

Income from Dividends and Interest:

Mutual funds generate income from the dividends paid by the stocks held in their portfolios and the interest earned from bonds or fixed-income securities. These earnings are typically distributed to fund owners on a quarterly or annual basis. Investors have the option to receive a check for the distributions or reinvest the earnings to purchase additional shares of the mutual fund. This allows investors to benefit from the income generated by the fund's underlying securities.

Capital Gains Distributions:

When a mutual fund sells securities that have appreciated in price, it realizes a capital gain. The fund is required to distribute these capital gains to its shareholders, typically on a quarterly or annual basis. These distributions represent the profits from the fund's investment activities, and investors are entitled to their share based on their ownership in the fund. Capital gains distributions can provide an additional source of income for investors.

Selling Shares for a Profit:

In addition to earning income from dividends, interest, and capital gains distributions, investors can also realize a return by selling their mutual fund shares for a profit in the market. If the fund's share price has increased since the investor's initial purchase, they can sell their shares at a higher price, resulting in a capital gain. Selling shares at a profit allows investors to capture the growth in the fund's value and translate it into a financial return.

It's important to note that the return earned from mutual funds can vary based on market conditions, the performance of the underlying securities, and the investor's time horizon. It's crucial for investors to consider their investment goals, risk tolerance, and the fund's historical performance when evaluating potential returns.

Unlocking the Distinctions: Key Factors Setting Mutual Funds and ETFs Apart

Minimum Holding Periods:

Mutual funds may impose minimum holding periods, which require investors to hold their shares for a specific duration before selling without incurring fees or penalties. This is intended to discourage short-term trading and promote a long-term investment approach. ETFs generally do not have minimum holding periods, allowing investors to buy and sell shares freely without such restrictions.

Purchase in Dollar Amounts versus Shares:

One significant difference between mutual funds and ETFs is how investors can purchase them. Mutual funds are typically purchased in dollar amounts. Investors can specify the amount they want to invest, and the fund company calculates the number of shares based on the current net asset value (NAV). In contrast, ETFs are bought and sold like individual stocks, where investors specify the number of shares they wish to purchase or sell.

Intraday Trading and Pricing:

ETFs offer intraday trading, which means they can be bought or sold on stock exchanges throughout the trading day, just like individual stocks. Their prices fluctuate in real-time based on supply and demand in the market. In contrast, mutual funds are priced and traded once at the end of the trading day based on the fund's net asset value (NAV).

Expense Ratios:

Expense ratios represent the cost of managing a mutual fund or ETF. Mutual funds tend to have higher expense ratios compared to ETFs, primarily due to their active management style and higher administrative costs. ETFs, particularly those that track an index passively, often have lower expense ratios, making them a cost-efficient choice for investors.

Tax Efficiency:

ETFs are generally considered more tax-efficient than mutual funds. Due to their unique structure and share creation/redemption mechanism, ETFs can minimize capital gains distributions, resulting in potential tax advantages for investors. Mutual funds, especially those with active management and frequent portfolio turnover, may generate capital gains that are passed on to shareholders.

Bringing it all together:

Investing in mutual funds and Exchange-Traded Funds (ETFs) provides individuals with a range of options to achieve their financial goals. By understanding the characteristics, benefits, and considerations of these investment vehicles, investors can make informed decisions that align with their investment objectives and risk tolerance.

Mutual funds offer diversification, professional management, and access to various asset classes and investment strategies. They are available in different types, including stock funds, bond funds, index funds, balanced funds, and more. Investors can earn returns from mutual funds through dividends, interest, capital gains distributions, and selling shares for a profit.

ETFs, on the other hand, provide flexibility, liquidity, and transparency. They track specific indexes or sectors and can be bought and sold on stock exchanges throughout the trading day. Investors can benefit from ETFs' low expense ratios, tax efficiency, and the ability to trade intraday.

When considering mutual funds and ETFs, it's important to assess factors such as fees, investment minimums, share creation mechanisms, and the ability to buy in dollar amounts or shares. Investors should also evaluate their investment goals, risk tolerance, time horizon, and other individual preferences.

Remember, mutual funds and ETFs are not the only investment options available. It's crucial to conduct thorough research, consult with financial advisors, and diversify investments to create a well-rounded portfolio that suits individual needs.

By gaining a comprehensive understanding of mutual funds and ETFs, investors can embark on their investment journey with confidence, knowing they have chosen the right investment vehicles to pursue their financial aspirations.

Jessie's Questions

  • Q: What is a mutual fund?
  • A: A mutual fund is a basket or investment vehicle that contains a collection of securities, such as stocks, bonds, and cash. It is professionally managed by a money manager and allows investors to pool their money together to achieve diversification and generate returns.
  • Q: What is a security? Is it different from a stock?
  • A: A security can be a stock, but it can also be another mutual fund, a bond, or a cash investment. In other words, a security is a broader term that encompasses various types of investment assets. While a stock represents ownership in a company, securities refer to different investment instruments.
  • Q: What is the difference between a mutual fund and an ETF?
  • A: The main difference is how they are traded. A mutual fund is not traded on the secondary market and transactions occur once a day at the end of the trading day. An ETF, on the other hand, is traded on the secondary market, similar to stocks, throughout the trading day.
  • Q: What is the secondary market?
  • A: The secondary market refers to the marketplace where already-issued securities, such as stocks and ETFs, are bought and sold among investors. It is different from the primary market, which is where initial public offerings (IPOs) occur when securities are first issued to the public.
  • Q: What is the IPO process?
  • A: The IPO (Initial Public Offering) process is the initial sale of a company's shares to the public. It is the process through which a private company becomes a publicly-traded company, allowing investors to purchase shares in the company for the first time.
  • Q: How do you get your money back from mutual funds or ETFs?
  • A: There are different ways. One way is through dividends or distributions, where investors receive a portion of the income generated by the securities held in the fund. Another way is by selling the mutual fund or ETF shares at a higher price than what was initially paid, thus realizing a capital gain. Additionally, some funds may have a redemption process where investors can sell their shares back to the fund.

Episode Transcript

Jessie: Welcome to Market MakeHer. An investing education podcast designed to help you navigate the stock market and achieve financial empowerment, from ‘her’ perspective. I'm Jessie DeNuit, here to ask all the questions, that a beginner, unfamiliar with the world of investing, would want to know.

Jess: I'm Jess Inskip, the resident financial expert, who gave up her financial licenses in order to provide free stock market education for all. Which if you're new here and found us from TikTok thank you for joining us on this journey today.

Jessie: And in this week's episode we are learning about mutual funds and ETFs. And our video theme for the day is flower crowns if you're watching on YouTube please feel free to tell us what our next theme should be. Jess, what is a mutual fund?

Jess: A mutual fund it is a basket full of securities. That is the most common analogy.

Jessie: So wait, but what is the security is that different from a stock?

Jess: A security can be a stock. It can be another mutual fund because you can have a fund of funds and we'll talk about that a little bit later. It can be a bond or fixed income product. Which we haven't gotten into. Those just are intended for income. It can also be cash. Securities are different types of investment asset classes. So, stocks, mutual funds.

Jessie: See I always thought Security in stock was interchangeable but it's not really it's

Jess: no

Jessie: A stock is a security. But a security is more than a stock. It's a stock, bond, cash, whatever we're investing with.

Jess: So what a mutual fund is. It's that basket or investment vehicle almost like a community fund. Everyone puts their money together. So, you have access to more diversification, which is more securities. So, a lot of stocks, a lot of bonds, a lot of cash, a combination, and then it's professionally managed by somebody. So, an expert, a money manager. And then the purpose of that fund is it generating returns for the investors.

Jessie: Okay so a mutual fund, is like a bag full of securities. Which is stocks, bonds, all these different assets we're talking about. But this is like actively managed by someone who knows what they're doing. They're the ones that have, like, picked all of the securities that go into this bag. They're the ones that are, like, removing some, adding things. Like switching it out based on what the mutual fund is that you picked?

Jess: If we had a group gift that we were going into for somebody and we put our money together, we could either buy a lot of little things, or we could buy one really big thing. But either way, we have more spending power, because we put it together.

Jessie: Okay, that makes sense. We're on a gift registry for someone for their baby shower or whatever, birthday, something going on. And yeah, we pool our money together to get, like, a really big, more useful gift. Like they want a stroller or crib versus like onesies or whatever.

Jess: You get more bang for your buck.

Jessie: So, what's the difference between a mutual fund and an ETF?

Jess: ETFs are a newer product. And it stands for exchange traded fund. That's where the difference is of fund is: a investment vehicle where people put their money together and a mutual fund, like it's literally in the name. It's a mutual fund because we mutually put our money together. Now, we have an exchange…

Jessie: I never even put that together mutual fund we're doing it all mutually together.

Jess: Exactly. And then exchange traded funds. Like, it's literally in the name as well. We now know what exchanges are. That's where stocks are listed and traded. And so the main, main, difference between an exchange traded fund and a mutual fund is that the exchange traded fund is traded on the secondary market. The mutual fund is not.

Jessie: When you say secondary market…

Jess: yes.

Jessie: Is there a difference? What is the secondary market?

Jess: That means it trades like a stock. Thank you for keeping me out of financial jargon land there.

Jessie: Then what's the first market?

Jess: IPO process.

Jessie: Oh. Okay.

Jess: So, a mutual fund is purchased in shares or dollars. And that's because they have a net asset value. So, it's the price that that fund is worth is determined at the end of the day. The exchange traded fund… you can buy it like a stock. So, it's a different type of order. Which means you can buy it in the morning, sell it five minutes later if you want. Whereas mutual funds only trade once a day. So, you could technically buy it today, and then sell it tomorrow. Not a good idea and there are fees with that we should talk about. But that's the main difference is the way that they're traded.

Jessie: So, technically you can only buy a mutual fund once a day or sell it once a day. So, you… you sell it once a day or you buy it once a day?

Jess: Both. All of the trades happen at one time, all together.

Jessie: All the trades within that one mutual fund?

Jess: It's just a value of those securities and they're closing prices at the end of the day, one time.

Jessie: Oh! I think I see what you're saying! Because when you buy an individual stock that, like, I could buy it at noon, and then at 4 pm the price could be completely different, right? But the mutual fund… you buy it that day and that price for that fund stays the same all day?

Jess: Yep! it has one price a day

Jessie: For a mutual fund. There are many different types of mutual funds. Same with ETFs, exchange, exchange traded funds, they both consist of multiple assets, right? The only difference between a mutual fund and an exchange traded fund is that the price of that fund stays the same all day. An ETF price can fluctuate. It fluctuates just like an individual stock would all day long.

Jess: And that's the main difference. Not the only difference. The main difference. We should get into active versus passive. So, we talked about the S&P 500. You cannot buy the S&P 500, but you can only buy a mirror of the S&P 500 and those mirrors are found in a mutual fund or an ETF. That is a type of passive investing. There are so many mutual funds and so many ETFs all that track the same index and try to match that Benchmark and that's where expense ratios come in. Basically, like the annual cost of the fund, the operating expenses. There is a cost because there's an active manager. So, you're getting this benefit of diversification because you're getting a bunch of assets put together. If it's a passive fund, the benchmark is that index and for that active management you pay an expense ratio an active fund that is where you've got your professionally managed money manager or portfolio manager of those funds, and the intent of that active fund manager is to beat that Benchmark. So, they need to beat the S&P 500 which means you're paying an expense ratio for someone to do better than their Benchmark.

Jessie: We're talking about how passive or active the managers within those funds are behaving and that's what drives the cost of the expense ratio?

Jess: But active means somebody's doing something more. So, I suppose it's the, the difference is, is you've got a personal stylist, who you're paying a fee for and they're going to go curate a wardrobe for you. And you're going to be amazed. They're going to do better than you ever could have done. Whereas, if you have something that's passive, you're just going to say: “okay I like what this person is wearing, just go get me that.”

Jessie: mmhhhmm

Jess: So, it's just a mirror and the other one's trying to outperform the other. And there's a higher fee for outperformance.

Jessie: Okay. All right.

Jess: we just talked about index funds though there are a lot of different funds.

Jessie: When you say Index Fund… those are in both mutual funds and ETFs?

Jess: That's right.

Jessie: So, the next fund is that. We're talking about S&P 500, because that's one of the indexes or indices that we learned yeah in episode two.

Jess: Yes. that's right. So, an index fund, the intent of it is to mirror exactly what it sees and match the performance of that index.

Jessie: okay

Jess: Very popular S&P 500 funds

Jessie: So, then what are the other types of mutual funds or ETFs?

Jess: So, you can have a stock fund. This is where there are a lot of variations of the stock fund so we can spend a lot of time on that. So, in the last episode, we talked about how many different stocks there are. Right? You've got your capitalization: So: small, medium, and large cap. You've got your stocks that are on the growth side or the value side. The in-between, which we did not talk about, is called blend. That's where you…

Jessie: We didn't talk about that. Yeah.

Jess: We did not. You're so you're not too small to be value but you're not so big that your growth. You can be a combination of any of that and that's a stock fund. So, you could be a large cap and growth you could be a large cap and blend.

Jessie: Yeah.

Jess: medium like it's just it's actually in this little um.. like a tic-tac-toe box wherever you fall it's called an equity style box. We'll put that in the episode equity for sure.

Jessie: Okay. Okay, so what are the other types?

Jess: So, we have a bond fund.

Jessie: Okay.

Jess: a bond

Jessie: Are we gonna talk about what a bond is?

Jess: For a very brief moment. When you have a stock, you own a piece of the company. When you have a bond, you own some debt from that company. It's another way that they can raise capital. So, Apple may issue what's called a corporate bond and they'll pay you some interest for that it's called a coupon. Just like a CD, it's got a maturity date attached to it. But it also gets some interest as well. So that that's what a bond is. So instead of owning…

Jessie: a bond isn’t just from the government. Like, I think for the longest time, I thought bonds were only from the gov like government bonds. Where you're like loaning the government money and they give it back to you with like a little bit of interest at a later date.

Jess: Nope there are so much fixed income products.

Jessie: So, a company can also issue a bond. And a bond is like, what? Like an IOU?

Jess: That's exactly right. It is an IOU.

Jessie: So, there are mutual funds and ETFs that comprise of both stocks and bonds or even just only bonds?

Jess: Yes.

Jessie: Okay.

Jess: So, that's called a balanced fund. So you can have stock funds just stocks you have bond funds that are just bonds you have a balanced fund which is a combination of stocks and bonds.

Jessie: okay.

Jess: and cash… which leads to our next one: money market funds. I'm calling it cash. But it invests inside the money market fund, because remember, it's a pool full of assets, a really short-term securities. so commercial paper is an investment that goes in there, short-term treasuries, things like that.

Jessie: This is a caveat, but just so everyone knows, when you do put your money into a money market account at a brokerage, when we get into that episode, do not leave it there. You still have to go take that and purchase your mutual funds, ETFs and stocks. Make sure that money is not just sitting in the money market account. You have to invest it.

Jess: Yes, you do.

Jessie: So mutual funds, ETFs, can also.. can be comprised of like individual stocks or indexes of stocks? like S&P 500 or different ones? they could also be comprised of bonds, money market accounts, anything else?

Jess: International or Global exposure funds.

Jessie: Okay.

Jess: and it all comes down to their investment objective. What's the goal of this fund ? What is the goal of this portfolio? We're getting in this vehicle, where is it going to take us? So may have international exposure. There's specialty funds. So those are the funds that are focused primarily on ESG. So that ethical investing. You can find funds that do that and then of course there are target date funds.

Jessie: The retirement ones.

Jess: So, they are a fund of funds. Which is probably the most confusing thing ever. So, a mutual fund is a lot of stocks bonds or cash or a mix of that. Right? A target date fund invests in mutual funds. So, now that we know bond funds and stock funds. Stocks are traditionally considered the more aggressive thing. The way that that stock will go up in value, is if that company makes more money. If you have a bond, they owe you money. If they go under, creditors are paid first. And you're a creditor there. So, if something happens to that company, you're first on the payout list. So that's also another reason why they're…

Jessie: oh

Jess: …considered less risky. But they also have grades and stuff. So, without going into much detail, if you invest in a target date fund, you specify. You say: “okay, I'm going to retire in 2065.” And it will start super aggressive, so more stocks, and it's always a combination of stocks bonds and cash, with a bunch of mutual funds. And it will start rebalancing itself over time. And take it from more aggressive to less aggressive. It's going to take the stock position away and slowly give you more income. Get you to cash at some point. Those actually have the highest expense ratios. Because if you think about it, every mutual fund has an, its expense ratio. Now you have a mutual fund made up of mutual funds. Now you have a ton of expense ratios. And then that mutual fund has an expense ratio. Also, fun little fact, how you tell if something is a mutual fund, and there's actually this whole methodology to stock symbols or tickers, they like to be called. I know that something is a mutual fund because it has five letters, and it ends in an X. Always.

Jessie: Oh! Okay.

Jess: every single time.

Jessie: Did not know that. So, they're always letters?

Jess: Always letters. Yes.

Jessie: Okay. Five letters. Ends with an X, that's a mutual fund. Brilliant. Taking that away…

Jess: yes

Jessie: today.

Jess: Now. Here's the main difference: if you have an ETF, what you're purchasing is the share price. They act like a stock. It's accessible because there's a secondary market. When you have a secondary Market means we can buy and sell easily right. A mutual fund you buy in dollar amount, or you can in share amounts. But they sometimes have minimum investments. You may not be allowed to buy into that fund unless you have five hundred dollars or twenty-five hundred dollars. So, there is a minimum amount that you can invest. They also have minimum holding periods, where you can't sell that mutual fund for 90 days after buying it. And if you do, you'll get something called a short-term redemption fee.

Jessie: When you buy a mutual fund that has at least like say 90 days before you can sell it… it says that on there? or do you have to read that prospectus thing to even find that out?

Jess: It's in the prospectus. But it's normally right in front of you when you purchase the mutual fund. Your brokerage firm is required to tell you all these fees and things.

Jessie: Okay. Okay, so short-term redemption fees should be laid out right there when you're trying to buy the mutual fund. And that's just telling you like you have to hold this mutual fund for this that amount of time before your you can sell it, or you'll occur additional fees?

Jess: Yep. You'll get penalized. Kind of like if you were to invest in a CD. You're required to have that for a certain period. And if you don't hold it for that certain period, you're going to get penalized. That's what happens.

Jessie: But ETFs don't normally do that?

Jess: Nope. They don't. Because you can buy and sell them on the market. so that's the difference. So, one is definitely intended to be long term which is a mutual fund.

Jessie: Okay.

Jess: Whereas if you want access to those funds. But wait! there's more! There's so many fees with mutual funds. You have what's called a front-load fee that means that when you first buy into the fund you have to pay a percentage of what you purchased. Or they have a back-end load where when you sell, you have a percentage of when you sell. The reason why they will penalize you, if you sell early and have minimums, if you are selling out of that fund, they have to make adjustments within that fund, they're gonna have to start selling securities and then buying more. do so. And that can hurt the other investors. And so that's why they charge you a fee… is they really want to discourage you from selling, buying and selling in and out of that. But those fees, they're not black and white, it's not like oh this mutual fund has this fee and that's consistent it actually varies by your brokerage firm. Because there are agreements that they have.

Jessie: Okay, I didn't realize all that. That makes sense though.

Jess: But it's mainly for active remember if you have an active mutual fund, you want someone to beat the S&P 500 or their benchmark. Whatever that may be.

Jessie: What do you mean by by saying beating the stock market?

Jess: great question. If the S&P 500 is up by 10% in a year then, if you, your portfolio was up 11% that year… you beat the stock market by one percent.

Jessie: Oh! Okay. Is that supposed to be one of our goals? We should always be looking to beat the stock market in our portfolios?

Jess: Not necessarily. We want to be in line and we want to grow our wealth. And I totally believe in having an investment thesis and buying some stocks you believe in. Absolutely we can have a fun term out there. I love this term, I love the Greeks, if you know me personally.

Jessie: I’ve heard you say that a lot and I'm like I don't understand what any of that means.

Jess: It's all just measurements. So, there's something that we use on the stock market called beta. The S&P 500 has a beta of one. And mutual funds can be assigned to beta or ETFs assigned a beta, stocks are even assigned to beta. And what that means is, if a stock or a fund, like Tesla is a really great example, I don't know the beta off the top of my head, but it's probably four… Means that it moves four times more than the market. It's more volatile. It's an emotional stock.

Jessie: Like up and down?

Jess: Yes, it just moves like crazy. It has temper tantrums. The market has a beta of one. Like it's literally off of the S&P 500. If a stock has a beta higher than one, then that means it moves more than the market. If it has a beta less than one, then it moves less than the market. And that's important if you're an emotional investor. If you can't…

Jessie: You’re not supposed to be an emotional investor, right?

Jess: You're not. But some people are. And if you cannot handle the volatility of the market and maybe you just want to have an income producing portfolio, you need a lower beta. T

Jessie: That's a different strategy then?

Jess: A completely different strategy. It all will come together. We can't explain it all in one episode. We're literally setting the table. You're going to understand what the stock market is, what a stock is, what a mutual fund is, what an ETF is… the difference of them. The ins and out. We'll talk about brokerage accounts features that are there. Then we'll get into the really good stuff. I mean it's all great. But.

Jessie: yeah

Jess: It's… you have to know this before you can do that.

Jessie: Okay good. I only have one like final question. And I think we touched on it but I just want to make sure we understand or start to understand. How do you get your money back that you invested for mutual funds or ETFs?

Jess: Mutual funds don't have as much transparency as what's inside their portfolio, they're required to report that once a quarter. And so, you have more visibility into those ETFs. So, you have the objective of both. You know their intent, their goal. but they make funds…

Jessie: The portfolio is the basket, or the bag, or the vehicle?

Jess: Yes.

Jessie: When you say portfolio. Okay. A mutual fund has a portfolio. An ETF has a portfolio. and then we as investors also have our own portfolio that's comprised of all the things we've bought right?

Jess: Yeah, exactly. You have a bunch of baskets. You've got eggs in that basket and then those eggs may have jellybeans in it. You know like in Easter… and then maybe we found that..

Jessie: Easter Egg Hunt! Like my family's place. We have all these little booze and scratch off tickets.

Jess: And maybe you have that. That's a great analogy though. So, you literally. Your basket is your portfolio. It's an Easter egg basket. You put eggs in that basket. Like there was always the golden egg you know. If you find the twenty-dollars or five-dollars and as a kid you're like, I’m rich! But that's that's like picking a good stock. So great analogy. But anyways, so you get your funds back in some way. So you want to cash in your Easter egg basket here's how you can do that: First and foremost is dividends. If that mutual fund has stocks that bear dividends, if they have a bond, that I owe you, that loan they're going to give you that income in the form of what's called a distribution. When they give you that distribution, it can be monthly it can be quarterly it's their schedule just like the stock has a dividend schedule. And when you get those dividends, or that distribution back, you can say: “I actually want to reinvest that back into the mutual fund, thank you.” Or you can receive it in a part of cash.

Jessie: So, what you're talking about... we haven't sold it yet.

Jess: We have not sold it.

Jessie: Do you have to say: “I want to reinvest those dividends”? Like, where do those dividends go? in your money market account?

Jess: Comes in the form of a distribution. If you choose to have have it in cash, it'll go into your money market fund or the default cash position that's found in your brokerage account. If you choose to have it reinvested, it will buy more shares of that mutual fund.

Jessie: ETFs don't have dividends?

Jess: They do have dividends. But they don't distribute them in the same type of way. Acts more of the way that the stock gives you the dividend.

Jessie: What else we need to know about selling a mutual fund or getting money back out of a mutual fund?

Jess: They also have capital gains and their quarterly rebalancing act where they make sure that everything is in line with that investment objective or that goal. They may realize what's called a capital gain which means they sold something that they bought at a lower price and then they also give that to you in the form of a distribution.

Jessie: oh, like when you sell a house.

Jess: and they're actually required to give you those capital gains at least once annually. So normally it's at the end of the year.

Jessie: Wait. So, me as the pur… investor, purchaser, I can get both dividends and I can get capital gains?

Jess: We still talked about two of three though.

Jessie: More ways I can make money.

Jess: Yes. And then number three is just like the stock. It increases in value and you just sell it at a higher price.

Jessie: The whole fund?

Jess: The whole fund. And the main difference is with the the third one that's an action you take. You say I am done with this fund I would like to sell it. The first and the second as long as you hold it during their requirement periods you're gonna get those distributions that are in the form of income or a capital gain and they're taxed.

Jessie: So that's why you would buy a mutual fund.

Jess: Why you would buy one is you can buy a lot of stocks. So if the investment objective of that mutual fund or ETF was income, then you would buy a lot of stocks that have a dividend and then they would manage that. So, it just offers you diversification and that's part of strategy and in right is making sure that you have appropriate risk allocation and part of that is not being concentrated in one thing. That term you don't have all your eggs in one basket.

Jessie: Don't have all the same eggs in one basket.

Jess: Yeah.

Jessie: I'm starting to understand how you make money off of them. I guess strategy is when you know when to sell.

Jess: It is. the purpose of today's episode is just to understand the differences between mutual funds and ETFs. They're not as basic as what has been outlined to you.

Jessie: Right.

Jess: It's not just an S&P 500 fund. There are so much more out there that could…

Jessie: So many different things.

Jess: So many things. If you are looking for something passive, we need to look at expense ratios and a mutual fund, all of the other expenses that come along with it. Which are those front-end load, backend loads, short-term redemption fees. They're there for a reason because they're constructed very differently.

Jessie: okay and we did have an Instagram question. Let's go ahead and ask it. It's from Stephen and it's: what's the benefit of purchasing the ETF versus just the underlying stocks on your own?

Jess: Thank you, Stephen, for the… the wonderful question. So the benefit of purchasing the ETF is you can put a lot less dollars into the same type of exposure. So, it's very expensive for you to buy a lot of stocks. Right now there aren't any transaction fees when you buy. There are some SEC fees when you sell. But when you buy, there aren't any commissions. However, it takes a lot of time to buy a lot of securities. Whereas it takes so much less time to buy one security that offers you the same type of exposure.

Jessie: Which is an ETF.

Jess: So, it's really leverage. You can put less money to work. It doesn't cost as much, so it takes down a barrier to entry. It trades like a stock, so you can get out of it if you want to. The main main difference… you have no voting rights at this point. You own a fund that owns the stock. You don't own a piece of the company; you own the fund.

Jessie: Okay. I think we can stop there for today. And let our brains marinate on all of that great information. And please feel free to message us any like further questions you have and what we talked about today you can do so on our website www.marketmakeher H-E-R podcast.com and I'm finally getting around to writing the content to share my Jessie's notes that I've been talking about on other episodes. Go ahead and subscribe to our email list as well if you would like to be alerted.

Jess: We have been loving your feedback and the comments. And it's amazing to me, I didn't even know that you're starting your career in finance, and this has become your go-to podcast. So, thank you. Thank you for spreading the word and allowing this to grow. We're self-funded. Not sponsored by anyone. Yet. Open for it, would like to add that in here. But of course, within our values. But because of that, having your comments sharing, rating us, making sure that you leave reviews really fuels our mission but it also helps grow this so we can be sustainable and keep doing this. It's literally midnight right now. We've been working all day. But this is something that's near and dear to our hearts. So, thank you for helping spread the word and we ask that you just keep doing that.

Jessie: And it also appeases the algorithm gods and goddesses as you all know very well. So, anytime you comment, like, share, subscribe, save. It definitely helps us continue to provide free education for everyone.

Jess: Absolutely

Jessie: I think that's the wrap for today. So, until next time. Keep investing, keep learning, and keep breaking those barriers.


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