ETFs: The Best Choice for Young Investors

by Alyssa Oursler | October 4, 2013 10:42 am

For most 20-somethings, every penny saved is important.

penny stocks, young investors[1]That’s because the simple availability of money is often the biggest hurdle to plans like moving out of Mom and Dad’s basement or picking the proper investments.

With that in mind, young investors should strongly consider using their hard-earned money to bet on exchange-traded funds, as they provide a big basket of stocks, usually for a very low cost[2].

Don’t believe me? Well, ask the people we all hope to be — those swimming in moolah.

While 28% of investors own ETFs, that number more than doubles to 47% for ultra-high-net-worth investors (those worth $5 million to $25 million), according to the Spectrem Group[3].

Whether those folks became rich via savvy investments or lucked into money but have managed to hold onto it, they’re definitely worth emulating. And it’s clear that even people with millions of dollars — folks that you’d think wouldn’t fret over a couple basis points of expenses — are flocking to exchange-traded funds.

In fairness, while low costs are definitely part of the attraction, Spectrem Group and other experts note additional factors — for instance, that more aggressive investors tend to lean toward ETFs. And some just “want the best fee-adjusted and tax-adjusted returns,”[4] according to Abbot Downing’s CIO, Carol Schleif.

But considering that young investors have the most room to be aggressive because of their long time horizons, and considering that ETFs are being recommended even in cases where they don’t have low fees … well, those are just more arguments for the ETF camp.

And, for those of us who do fret over relatively small sums of money, there’s no doubt that ETFs have a pretty great selling point in their lower costs alone.

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Heck, just look at the chart to the right, courtesy of the Financial Industry Regulatory Authority[5]. As you can see, exchange-traded funds usually have around one-third of the expenses of their mutual fund counterparts.

Also of note: ETFs don’t have “sales loads” — an additional fee charged by some mutual funds when you purchase units. Nor do they require minimum purchases; mutual funds often will make you buy at least, say, $1,000 worth of units. (Though the figure can be more or less than that.)

Sure, you have to have a open up brokerage account if you want to buy ETFs, as you can’t snatch them up via your 401k. But a brokerage account is a great tool for long-term investing anyway, and is worth the effort to use your money in the most efficient way.

Further sweetening the pot is the fact that an increasing number of brokers now offer commission-free ETF trades — another easy way to save money on your investment expenses. These seemingly small fees can make a huge difference … especially for young investors making smaller trades.

A $10 trading fee isn’t outrageous, for example, but they can add up and eat into returns pretty quickly when you’re making several investments yet only playing with hundreds or thousands of dollars.

Of course, young investors shouldn’t just assume all ETFs are bargains. As David Fabian recently pointed out, the expenses — while generally cheaper than mutual funds — can still vary widely between competing providers[6].

Fabian uses the example of two real estate ETFs: the iShares Dow Jones US Real Estate ETF (IYR[7]) vs. the Vanguard REIT ETF (VNQ[8]). Both have similar holdings, but VNQ has an expense ratio of 0.1%, or $10 for every $10,000 invested, vs. 0.46% ($46) for IYR.

As he says, “Doing a little homework can save you a boatload of money.”

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  1. [Image]:
  2. big basket of stocks, usually for a very low cost:
  3. according to the Spectrem Group:
  4. “want the best fee-adjusted and tax-adjusted returns,”:
  5. courtesy of the Financial Industry Regulatory Authority:
  6. vary widely between competing providers:
  7. IYR:
  8. VNQ:
  9. Sign up for our Young Investors e-letter:

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