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Financial advisors will soon, and for the first time, hold more of their clients’ assets in exchange-traded funds than in mutual funds, according to a new report from Cerulli Associates.
Cerulli said in a report issued Friday that nearly all advisors use mutual funds and ETFs, about 94% and 90%, respectively.
However, advisors expect a larger percentage of client assets to be invested in ETFs (25.4%) in 2026 compared to the percentage in mutual funds (24%), Cerulli said.
If that happens, ETFs will surpass individual stocks, bonds, cash accounts, pensions and other types of investments to become “the most heavily allocated product vehicle for asset managers,” Cerulli said.
Currently, investment trusts account for 28.7% of customer assets, and ETFs account for 21.6%.
The same goes for ETFs and mutual funds. These are essentially legal structures that allow investors to spread their assets across different securities such as stocks and bonds.
However, there are important differences that make ETFs increasingly popular among investors and financial advisors.
ETFs hold approximately $10 trillion in U.S. assets. That’s about half of the roughly $20 trillion in mutual funds, but ETFs have steadily eroded mutual fund market share since their introduction in the early 1990s.
“ETFs have been attractive to investors for a long time,” said Jared Woodard, investment and ETF strategist at Bank of America Securities. “There are tax benefits, costs are a little lower, and people like the liquidity and transparency.”
Reduce taxes and fees
ETF investors can often avoid certain taxes that many mutual fund investors pay each year.
Specifically, mutual fund managers generate capital gains within the fund when they buy and sell securities. That tax liability is passed on to all Fund shareholders each year.
However, the structure of ETFs allows most managers to trade stocks and bonds without triggering a taxable event.
In 2023, 4% of ETFs had capital gain distributions, compared to 65% of mutual funds, according to Brian Armor, director of North American passive strategies research at Morningstar and editor of the ETF Investor newsletter. Ta.
For investors, “if you’re not paying taxes today, that’s going to be a lot more money,” Armer said.
Of course, both ETF and mutual fund investors are subject to capital gains taxes on their investment gains when they ultimately sell their holdings.
Liquidity, transparency and lower fees are the main reasons advisors choose ETFs over mutual funds, Cerulli said.
The average expense ratio for index ETFs is 0.44%, half the annual fee of 0.88% for index mutual funds, according to Morningstar data. The average fee for active ETFs is 0.63%, compared to 1.02% for actively managed mutual funds, according to Morningstar data.
Armer said the lower fees and tax benefits will reduce overall costs for investors.
Transactions and transparency
Investors can also trade ETFs intraday just like stocks. Investors can place orders for mutual funds at any time, but trades are executed only once a day after the market closes.
Additionally, ETFs typically disclose their portfolio holdings once a day, while mutual funds typically disclose their holdings on a quarterly basis. Experts say ETF investors can see what they’re buying in their portfolios and what’s changing in a more regular manner.
But experts say ETFs have limitations.
First, mutual funds are unlikely to cede their dominance over workplace retirement plans like 401(k) plans, at least not in the near future, Armor said. 401(k)s, individual retirement accounts, and other accounts are already tax-advantaged, so ETFs typically don’t give investors an advantage in retirement accounts.
Additionally, ETFs, unlike mutual funds, cannot reach new investors, Armor said. This could put investors at a disadvantage in ETFs with niche, focused investment strategies, he said. He said that for some funds, managers may have a harder time implementing their strategies as the number of investors in the ETF increases.
