Which makes more sense for you: Investment Funds or ETFs?

Investment funds or ETFs? This is one of the most pressing questions for thousands of investors right now. Some say ETFs are the future, and they certainly seem to be popular at the moment. However, not everyone realises the fixed costs involved in each transaction. Some people still rely on traditional investment funds, even though these may have higher management costs.

Do you want the truth? There is no right answer. It all depends on your profile, what you're looking for and how you want to invest. This guide to investment funds vs. ETFs explains the differences, advantages and risks of each option, using real examples to help you decide.

Investment funds vs. ETFs: what's the difference?

If you're undecided between these two options, it's important to start by explaining what each one involves:

  •  Investment fund:A fund pools together the capital of several people to invest in shares, bonds, property or other assets. The management team comprises professionals who make decisions based on a pre-defined strategy.

  •  ETF (Exchange Traded Fund): These are similar to investment funds but can be bought and sold on the stock exchange, like shares. While most ETFs replicate an index (such as the S&P 500 or the Euro Stoxx 50), there are also thematic, sectoral and bond ETFs.

The pros and cons of investment funds

It's important to understand what's at stake before you invest. Below are the main points in favour and those that require more attention.

Advantages

  •  Professional management: The vast majority of funds are managed by experienced teams who monitor the market and make decisions to ensure the fund remains aligned with the defined objectives;

  •  Automatic diversification: Even with a small investment, you can diversify your risk across different assets, sectors or regions;

  •  Flexibility: There are thousands of funds to suit all profiles and objectives, ranging from the most defensive to the most aggressive.

Risks

  •  Returns not guaranteed: As with any investment, returns are not guaranteed. The value of your investment could decrease;

  •  Variable liquidity: With some funds, you may not be able to access your money immediately, or you might have to wait a few days;

  •  Complexity in some cases: Some funds employ strategies that are too advanced for beginners to understand.

Pros and cons of ETFs

Se you're considering investing in ETFs, bear these advantages and limitations in mind:

Advantages

  •  You know exactly what the fund comprises and how the replicated index is evolving;

  •  They offer high liquidity, meaning you can buy or sell at any time during market hours with the same ease as trading a share;

  •  As ETFs are usually managed passively, without the need for a dedicated team, the management fee tends to be lower than for traditional funds.

Risks

  •  Compared to funds that have a fixed daily price, the price of ETFs can vary during the day, which can increase volatility;

  •  Although ETFs are generally cheaper in terms of management fees, they have fixed transaction costs, that do not depend on the amount invested. This means that if you invest smaller amounts, these costs will have a greater proportional impact on your profitability.

For example, if you invest €200, and pay €5 brokerage on the purchase and €5 on the sale, you'll already have lost €10, which is equivalent to 5% of your investment in fixed costs alone. In comparison, in a fund with a 1.5% annual fee, you'd only pay €3 in the first year.

Choosing between investment funds and ETFs

Your choice between investment funds and ETFs should be based on your financial goals, how much time you can dedicate to managing your investments, and the way in which you feel most comfortable investing. These are the main criteria you should consider before making your decision.

Profitability

Profitability indicates how much your investment has increased (or decreased) over time. It can be expressed over different time periods (one year, three years, five years, etc.) and is used to evaluate the historical performance of a fund or ETF.

There are two main types:

  •  Cumulative return: Measures the total appreciation of the fund between two specified dates;

  •  Full profitability: Includes also the dividends or interest paid during the period.

Although useful, remember: past returns do not guarantee future results, but they help you understand consistency and resilience.

TER (Total Expense Ratio)

This is the total annual cost of the fund or ETF, expressed as a percentage of the amount invested. This includes management and auditing fees, as well as administrative costs. A high TER is only worthwhile if the fund can offset this cost by achieving good results.

Volatility

This indicator shows how much the value of the fund or ETF fluctuates. Volatility can help you understand the nature of the asset: if you can tolerate variations well, a more volatile product might suit you. If you're looking for stability, consider investing in more predictable assets.

Signs that investment funds are right for you

If you're just starting out or testing the waters, investment funds may be a more convenient and cost-effective option. Here are some situations in which they make sense:

  •  You want to invest smaller amounts and avoid fixed transaction costs;

  •  You want a more automated solution with professional support, so that you don't have to follow the market closely;

  •  You see the investment as a "piggy bank with income" and are willing to leave the capital invested for a while;

  •  You're looking for diversification with an affordable entry point, without the need for brokerage fees;

  •  You want to start investing now, and later on you can convert the accumulated amount into ETFs, when the fixed costs will make less of a difference.

Signs that ETFs are right for you

ETFs may be a good option for active investors or those who already have some accumulated assets. They're right for you if:

  •  You want total control over when you buy and sell, and you enjoy following the markets;

  •  You're investing larger sums, so fixed transaction costs represent a smaller proportion of the investment;

  •  You're looking for immediate liquidity (you can buy or sell at any time during the day, just as you can with shares);

  •  As long as you are aware of the entry and exit costs, you prefer very low management fees;

  •  You want direct access to specific strategies and sectors.

Alternatives to investment funds and ETFs

If you're looking for alternative investment opportunities or ways to diversify your portfolio with different assets, there are other solutions you could consider:

Individual shares

If you enjoy following specific companies and have the time to study the market, investing directly in shares could be a good option for you. Although you have more control and greater potential for appreciation, there is also more risk.

Bonds

Less volatile and with more predictable returns, bonds remain an interesting choice, especially for those who want more stability. There are sovereign and corporate options, each with different terms and yields.

Postal savings certificates and treasury certificates

These products are issued by the government and their yields are updated periodically. However, yields are usually lower.

Structured deposits

The structured deposits are hybrid financial products that combine a portion of the capital with more conservative assets and another portion with more dynamic assets, such as shares. These are ideal for those who want a secure investment with some exposure to the market.

Unit-linked

The Unit-linked products are investment products that are associated with life insurance. You can choose where to invest your capital, and often adjust the strategy over time. Because they are structured as insurance, they can offer tax benefits and inheritance advantages. They are an interesting option for those looking to diversify beyond traditional formats.

Cryptocurrencies and digital assets

Although there is greater risk and volatility, there is also the potential for appreciation. Digital assets should only account for a small proportion of the portfolio. They are ideal for those with a bold risk profile who are willing to study them.

Investment funds vs. ETFs: The choice is yours, but you don't have to make it alone

Although they are different, investment funds and ETFs both offer a way to make your money grow. One offers greater simplicity and the other greater autonomy. Depending on your goals, the time you want to dedicate to investing, and your investment style, both could have a place in your portfolio.

At NextGen Banco Carregosa you'll find solutions for investing in both these products and in many more, with access to experts, intuitive tools and personalised support, so that you can invest with confidence, clarity and knowledge, whatever your starting point. Contact us.