Before buying ETFs, ask these five questions

ETFs and mutual funds require investors to do much of the same homework first.

Christopher Davis 19 March, 2015 | 5:00PM
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As much discussion as there is on the distinctions between ETFs and mutual funds, the two investments share more similarities than differences.

Yes, ETFs tend to be less expensive, more transparent and more tax efficient than conventional mutual funds. And because they trade on stock exchanges, investors can buy and sell them throughout the day, use leverage and sell them short -- advantages that benefit short-term traders and speculators more than long-term investors.

Despite the differences in how ETFs and mutual funds trade, the end product is the same. Both provide exposure to a diversified basket of stocks, bonds and occasionally, hard assets and derivatives. ETFs mostly track passive benchmarks while mutual funds largely pursue active strategies, but the line between passive and active has increasingly blurred. So-called "smart beta" or "strategic beta" (Morningstar prefers the latter term) make active bets against the market, just like most mutual funds. It's worth noting both vehicles are governed by the same regulatory requirements, so investors experience equal levels of legal protection.

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Christopher Davis

Christopher Davis  Christopher Davis is Director of Manager Research at Morningstar Canada.

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