The Indian investment landscape offers a plethora of options, with mutual funds and exchange-traded funds (ETFs) being two of the most popular choices. While both allow investors to diversify their portfolios and gain exposure to various asset classes, they have distinct characteristics and cater to different investment styles.
This comprehensive guide will delve into the key differences between mutual funds and ETFs in India, helping you make informed investment decisions.
1. Structure and Trading
Mutual Funds: Mutual funds are pooled investment vehicles where investors’ money is collectively invested in a diversified portfolio of securities, such as stocks, bonds, or other assets. Fund managers actively manage these portfolios, making buy and sell decisions based on their investment strategy. Mutual funds are bought or sold at their net asset value (NAV) at the end of the trading day.
ETFs: ETFs, on the other hand, are traded on stock exchanges like individual stocks. They also represent a basket of securities, but their prices fluctuate throughout the trading day based on market demand and supply. This intraday trading flexibility makes ETFs attractive for investors seeking real-time price discovery and liquidity.
2. Cost Structure
Mutual Funds: Mutual funds typically charge higher expense ratios compared to ETFs. This is because they involve active management, research, and administrative costs. The expense ratio can vary depending on the type of fund and its management style.
ETFs: ETFs are often passively managed, meaning they track a specific index or benchmark. Consequently, they tend to have lower expense ratios as they require less active management and incur fewer costs.
3. Trading and Liquidity
Mutual Funds: Mutual funds are bought or sold at their NAV, which is calculated at the end of the trading day. This means you cannot buy or sell mutual fund units during market hours, and the price you get is the closing NAV of that day.
ETFs: ETFs trade on stock exchanges like individual stocks, so you can buy or sell them anytime during market hours at the prevailing market price. This provides greater flexibility and liquidity compared to mutual funds.
4. Tax Implications
Mutual Funds: The tax treatment of mutual funds depends on the holding period and whether they are equity or debt-oriented. Short-term capital gains (STCG) are taxed as per your income tax slab, while long-term capital gains (LTCG) on equity funds are taxed at 10%.
ETFs: Taxation for ETFs is similar to that of stocks. STCG on ETFs is taxed as per your income tax slab, while LTCG is taxed at 10% without indexation benefit or 20% with indexation benefit.
5. Tracking Error
Mutual Funds: Actively managed mutual funds may experience tracking error, which is the difference between the fund’s performance and its benchmark index. This error arises due to the fund manager’s decisions to deviate from the index composition.
ETFs: Passively managed ETFs generally have lower tracking error compared to actively managed funds as they aim to replicate the performance of their underlying index.
Which is Better: Mutual Fund or ETF?
The choice between mutual funds and ETFs depends on your individual preferences and investment style.
Choose mutual funds if you:
- Prefer professional management and are not comfortable selecting individual stocks.
- Are looking for a wide variety of investment options.
- Prefer to invest through SIPs (Systematic Investment Plans).
Choose ETFs if you:
- Prefer lower expense ratios and tax efficiency.
- Want real-time price discovery and intraday trading flexibility.
- Are comfortable tracking an index or sector.
Difference Between Mutual Fund and ETF in India: FAQs
Yes, some brokers in India offer SIP facilities for ETFs.
ETFs are generally more liquid as they trade on stock exchanges throughout the trading day.
Yes, ETFs are generally considered more tax-efficient than actively managed mutual funds.
No, some ETFs are actively managed and aim to outperform a specific benchmark or sector.
You can buy mutual funds and ETFs through online platforms, brokers, or directly from the fund house.
By understanding the difference between mutual funds and ETFs in India, you can make informed decisions and choose the investment vehicle that best aligns with your individual needs and investment goals.