ETF vs Stock, when investing in the stock market, I usually have the following question asked: Should I buy an ETF or should I buy Stocks?.
There are benefits for both and I don’t think they are mutually exclusive, you can easily build a portfolio with ETF’s and Stocks
ETF vs Stock
ETFs (Exchange-Traded-Funds) are a compendium of stocks traded as a fund on the stock market, they can be as generic as an ETF that tracks the S&P 500 to something very particular as an ETF that tracks the performance of the Canadian Banks.
Stocks on the other hand, are shares for a specific company, which means, that if you want to track the performance of the S&P 500 by buying stocks, you will need to buy A LOT of them! Instead, you can just buy 1 ETF that will do this purpose.
Fees: ETF vs Stock
When you buy a stock, it is yours, which means the only fee that you paid was the transaction fee that your broker charged you to buy the stock
For ETF, you will have to pay your broker fee to buy the stock and on top of this, you will have to pay the MER (Management Expense Ratio) which is the fee that the ETF charges you for managing the fund.
In example, if you buy Facebook stock (FB), you might pay $10 to your broker as a transaction fee. If you buy the iShares S&P 500 (IVV) ETF, you will pay the $10 to your broker and you will also be charged 0.04% annually as long as you hold the ETF.
Sector or Market: ETF vs Stock
If you are interested in holding a sector (Banks, Healthcare, Transportation) you will be better of buying stocks than buying the ETF, this is because the majority of the stocks on this kind of sectors tend to have a similar performance and pretty much you only have to buy 1 company of the sector to have the performance of the sector and by buying the stock you avoid paying MER fees.
Which one should I choose?
Sector: ETF vs Stock
With all this being said, lets put all this ideas into practice. I like stocks that pays dividends (the company pays me for holding the stock? sweet deal!). One industry that tends to pay steady dividends are Banks, they are strong, already established and a reliable source of dividends.
If I were to choose among the canadian banks, I would have to pick one of the followings:
- TD Bank (TD)
- Bank of Montreal (BMO)
- Scotia Bank (BNS)
- National Bank of Canada (NA)
- CIBC (CM)
Or, I could just go and buy an ETF that holds all this banks:
- BMO S&P/TSX Equal Weight Banks Index ETF (ZEB)
To have a clear perspective of how this stocks behave against the ETF, lets check the chart below:
Please click on the image to enlarge it
As you can see on the previous chart, all the Canadian bank stocks follow the same trend, some of them might perform a little bit better than others and the ETF (ZEB) does a very good job following the trend (green thick line).
If you can choose just 1 Canadian bank stock, you would own a piece of that bank and get payed dividends for it, and your only fee would be your brokers fee for the transaction
If you can’t make up your mind on which stock to buy and go instead with the ETF, you will pay the broker transaction fee, and also will have to pay the MER, which in this case is 0.55% or $0.55 per each $100 you have invested.
Market: ETF vs Stock
If I want to apply one of the most common investing advise which is invest on an S&P 500 index, and I wanted to achieve this feat by buying stocks, I would have a very hard time doing it. Why?
Well, the S&P 500 tracks the performance of the 500 biggest companies traded on the US Stock Market, and in order to make me a portfolio of stocks that can track said performance, I would have to buy SEVERAL stocks, which not only creates the problem of having to research for those stocks, but also, I would have to pay A LOT of money on transaction fees, assume that for each stock I would pay $10, if I buy 50 stocks, that’s $500 just in fees!!! and if I’m investing $1000… well… half my money is gone in fees!
Instead, you can buy 1 ETF that tracks the S&P 500 and pay only 1 transaction fee and the associated MER which can be as low as 0.04% or $0.04 per each $100 invested on the ETF.
Why would I go Stock over ETF:
- You know exactly which company you own on your portfolio, which includes its fundamentals, business model, “analysts” predictions, etc.
- You pay only once for buying the stock and is yours forever
- You don’t have to pay MER’s ever!
- If your stock pays dividends, you will get the full dividends (since you don’t pay MER)
Why would I go ETF over Stock:
- I want to have the performance of a Sector or Market Index
- I don’t have the time to research a sector, as in the example for the Canadian Banks
- I want an “autopilot” investing approach. This doesn’t mean that it will be less risky or costly (Remember, you HAVE to pay MERs for this luxury)
The debate on which one is better only boils down to 2 main questions: What am I trying to achieve? and, How much I’m willing to pay to achieve it?
In your case, which one would you choose and why?! Leave a comment below and let’s discuss about it!