**The Rise of ETFs: Four Key Reasons Behind Their Growing Popularity**
Exchange-traded funds (ETFs) have experienced a surge in popularity over the past decade, with their market share relative to mutual fund assets more than doubling to around 32%. Experts attribute this growth to several key advantages that ETFs offer over traditional mutual funds.
**Tax Efficiency**
One significant benefit of ETFs is their tax efficiency. Unlike mutual funds, which can generate capital-gains taxes within the fund itself, ETFs allow managers to trade underlying stocks and bonds without creating a taxable event for investors. This means that ETF investors can avoid unwanted tax bills, making them an attractive option for taxable accounts.
**Lower Costs**
ETFs are generally less expensive than mutual funds, with an average cost of 0.50% compared to 1.01% for mutual funds. This cost difference can add up over time, making ETFs a more appealing choice for investors seeking to minimize their expenses.
**Index Fund Connection**
The first ETF was an index fund, and since then, ETFs have become closely associated with index funds. As investors have increasingly turned to index funds in search of lower costs and more predictable returns, ETFs have benefited from this trend. In fact, ETFs accounted for 80% of net money into index stock funds in the first half of 2024.
**Fee-Based Model**
The shift towards a fee-based model in the retail brokerage industry has also contributed to the growth of ETFs. Under this model, advisors earn a flat fee based on the value of the holdings in a client’s account, rather than commissions on individual investments. ETFs are well-suited to this model, as they don’t carry sales-related costs like mutual funds do. As a result, many advisors have turned to ETFs as a preferred investment option for their clients.
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