-When you talk about your investor who invests 500$ per 2 weeks, here is how I would respond:

-Such an investor would rather quickly reach $100,000 in assets right? At that point, he would be paying over $1000 in additional fees per year (based on a 1% commission higher than on ETF’s, which sounds reasonable right?). That is 40$ per 2 weeks… isn’t that similar to paying a commission? When an investor has less assets, I think waiting to have $2000 to invest before buying the ETF helps a lot in diminishing these fees.

I spoke to a Fidelity representative which told me that the average fee on their funds right now is 2.14%. Considering that over 99% of ETF’s charge less than 1%… I think it’s fair to say the difference is significant.

And yes, a lot of my other points relate not necessarily to long term index investors but rather investors in general.

Thanks for the good comments, I think the debate will go on for a long time but assets are moving rather quickly from mutual funds to ETF’s so I would think that will force mutual funds to diminish those fees and make the competition more equal (Fidelity’s 2.14% average fee is actually 0.30% better than a year ago or so).

TFB’s major point is that in one particular scenario — a very important an prevalent one, namely, ordinary retirement savings — index mutual funds are probably a better way to go than ETFs.

The first reason is the lack of trading commissions. IS tries to counter this by pointing out that a $10 trading commission on a $3000 investment is a very small fraction, and can be made up quickly by lower management fees. But that’s an unrealistic straw-man example. A more realistic scenario, in the retirement savings universe, is a worker who sets aside $500 every two weeks — and might want to allocate that $500 between two or more funds (one stock and one bond fund, for example). In such a case, setting up automatic mutual fund contributions at each payday is a very good idea, because the investor can invest in increments of $250 each time the money comes in. Trading ETFs to achieve the same result would incur $20 of commissions for each $500 contribution — a substantial cost. The only way to avoid that is to allow the contributions to accumulate at 10 week intervals and then invest $3000 at a time to invest in a single ETF. Another 10 weeks would go by until he could invest in his second fund economically. A lot of money sits around idle for a lot of weeks, dollar cost averaging opportunities are missed, and the portfolio spends a lot of time out of balance (at least in its earlier and smaller years, where each buy represents a large fraction of the whole), which is non-ideal, and the investor will probably have to make each ten week trade manually, which is a chore one can easily neglect.

Which leads to the second point — the plethora of choices and minute-by-minute trading opportunities is more likely to be misused by the average investor than used to great advantage. Sell out as the market is tanking to avoid further losses? Really? When the average investor has a day job and cannot constantly monitor the markets? And even if you are constantly tuned in, would selling out halfway down the “flash crash” have helped, when the very next day the market had fully recovered to pre-crash levels?

For most people who put away long-term savings incrementally, the ability to set-and-forget one’s mutual fund savings settings, and have those transactions go through very cheaply, is an unbeatable advantage.

(By the way, several of the other pro-ETF arguments are largely spurious. Management fees on index mutual funds are higher, but not by much; not nearly as bad as in actively managed funds. Broker commissions are a dirty industry secret, but they come out of fees, so your last two points are really one; moreover, cheap index mutual funds tend to pay the least in kickbacks anyway. Transparency is also a spurious point in the case of index mutual funds, because you DO know the holdings — the index the fund is tracking; again, the point is a lot more relevant to actively managed funds. ETFs may be tax efficient, but anyone holding through a tax-advantaged account, such as U.S. savers with their IRAs, shouldn’t particularly care.)