Q

Are index ETFs better than actively managed funds?

A

They are safer, more reliable, and Warren Buffett really likes them. So you could definitely say they're better.

First you should know the difference between an ETF and a stock. When you buy a stock you’re investing in a single company — Apple for instance. When you buy an ETF — short for Exchange-Traded Fund — you’re buying a whole collection of different stocks (or bonds, etc.). Index ETFs invest in a collection of companies that tracks certain parts of the market — whether it’s the energy sector or the the S&P 500. (It’s possible Apple will be one of the many companies that comprise an ETF.) So they are way more diversified than a stock. Investing in a stock is like making a bet — you might make a fortune, but there’s also a chance you’ll lose your shirt.

So which is better? Putting all your eggs in one company’s basket or in many of them? Many if not the majority of active fund managers (a.k.a stock-pickers) did not beat their benchmark indexes over a 15 year period. Market-tracking ETFs, on the other hand, have been shown to offer sustained, consistent growth while minimizing downside risk. That’s why people like Warren Buffett like them so much. This strategy may not seem as sexy as betting on the flavour-of-the-month tech stock, but for the long-term investor, ETFs have a much better track record of providing the kind of safer, more reliable growth you want when building your nest egg. Remember: research shows that even professional stock-pickers have a hard time beating index funds consistently.

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