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ETFs vs index funds: What are the key differences?

A fun ETFs vs index funds cartoon depicting two stock graphs squaring off in an arena.

Should you choose an ETF or an index fund? What features really matter? In this post, we’ll help you cut to the chase on ETFs vs index funds by focussing on the differences that count. See our table just below for a quick summary. 

You may well already know that index funds and Exchange Traded Funds (ETFs) are both types of investment funds that are ideal for passive investing

Collectively known as index trackers, ETFs and index funds invest your money – along with that of thousands of other people – into particular asset classes and segments of the market, such as UK equities or global bonds. 

Both index funds and ETFs track an underlying index of securities such as the FTSE 100 or the S&P 500. Investing in a defined market like this enables trackers to capture investment returns like a solar panel converting the energy of the sun.  

From a big picture perspective, ETFs and index funds share the same benefits. Namely they are:

  • Low cost
  • Easily understood
  • Transparent
  • Liquid and readily accessible
  • Diversified across hundreds or even thousands of securities
  • The building blocks of a passive investing portfolio

So the two tracker types share plenty of DNA. But it’s worth knowing what separates them – just as you’d prepare differently for a tea party of chimpanzees compared to a visit from Auntie Hilda, even though they’re 99% genetically alike.

What are the major differences between ETFs and index funds?

ETFs Index funds
Trading Whenever the stock exchange is open Once a day
Pricing Fluctuates all day One price daily but unknown when you trade
Order types Usual range from your broker n/a
Minimum investment Typically one share Typically £25 to £100
Broker FX fees Avoid with GBP priced ETFs Not a problem
Investor compensation Not covered by UK compensation scheme Compensation applies to UK domiciled funds
Choice Access exotic markets Limited to broad markets

The main differences that are relevant to your ETFs vs index funds decision. 

We’ll now look at each difference in more detail below. 

ETFs vs index funds: trading

The big difference between ETFs and index funds lies in how they’re bought and sold. 

ETFs trade on a stock exchange, just like ordinary shares in single companies. In the UK, that means ETFs are listed on the London Stock Exchange.

ETFs can typically be traded any time the stock exchange is open. You could buy an ETF over breakfast and then sell it before you’ve finished the washing up. 

Index funds are bought directly from the financial services provider who runs the fund – albeit most often via a third-party platform such as Hargreaves Lansdown or Interactive Investor, who acts as an intermediary.

Funds are only traded once a day, often at midday. 

Fund providers set a daily cut-off point for trades. If you miss that day’s dealing deadline then your trade goes through on the following working day. 

11am is a common cut-off point but it varies from fund to fund. 

Either way, your ETF or index fund transactions are routed through an investing platform. (Some large providers like Vanguard enable you to buy and hold both directly with them. They are effectively their own broker.)

The difference is whereas you’ll know the outcome of your ETF trade in seconds – and you can immediately reinvest the proceeds of a sale – you’ll often wait a day or two to find out what happened with your index fund. And if you sold, it’ll take that day or two before you can put the proceeds of your index fund sale to work. 

ETFs can be traded using stop-loss, limit, and market orders. Index funds don’t have these options. 

Limit orders can be useful in enabling you to set a maximum buying price and minimum selling price, and then leaving the broker to execute your trade for you.

ETFs vs index funds: pricing

ETF prices fluctuate all day – although your broker will quote you a price per share before you trade. 

ETFs also have two prices at any given moment: a buying price (bid) and a selling price (offer). This is known as the bid-offer spread.

This spread means you’ll pay more to buy into an Exchange Traded fund than you will get for selling it a second later. It’s just like when you buy foreign currency for a trip abroad.

This is a cost of trading because you’re instantly down at the moment you’ve bought your shares.

True, the spread is negligible on ETFs with plenty of buyers and sellers. Such ETFs cover broad, deep markets such as the MSCI World or FTSE 100. 

However on a small and illiquid ETF, the spread can be over 1%.

Hargreaves Lansdown shows an ‘indicative spread’ estimate in the cost section of its web page for each individual ETF. 

You can also calculate the bid-offer spread from the prices given on the ETF’s homepage, via the London Stock Exchange, or through your broker.

Index funds are priced once daily at a specific valuation point. A fund’s price reflects the underlying value of its assets or net asset value (NAV).

Bizarrely, you don’t know what price you will buy or sell a fund for. 

You know the fund price at its last valuation point. But your trade will execute at the next valuation point. 

Effectively you’re trading half-blind. One consolation though is that statistically you’ve got about the same chance of gaining a better price as a worse one when your deal goes through.

Most index funds offer a single price. There’s no bid-offer spread to think about. 

However, the spread still exists. It’s just concealed in other charges.

ETFs vs index funds: minimum investment

ETFs are typically available from UK brokers in lots of at least one share. Aside from that, most brokers don’t impose a minimum investment amount.

A few brokers allow you to trade a fraction of a share. This is called fractional ETF investing and is handy if the ETF’s share price is higher than the sum you have to invest. InvestEngine offers fractional ETF investing. 

Index fund shares are called units. You can always trade fractions of a unit. For example, you can buy a half or even 0.333 of a unit. 

However, brokers often require you to invest a minimum amount in funds – from £25 to £100. The minimum is usually lower for monthly investment plans. 

Disregard any minimums that suggest you must invest thousands into a fund. Those thresholds apply to institutional brokers who buy directly from fund providers instead of via a broker. But the literature is not always clear on this.

Index funds vs ETFs: fees

There aren’t any significant ETF vs index fund differences when it comes to fees. There are though some banana skins to tap dance around.

Ongoing Fund Charges (OCF) – sometimes ETFs are cheaper than index funds in certain sub-asset classes. Other times index funds win. 

Monevator keeps a beady eye on low-cost index funds and ETFs.  

Trading fees – there are zero-commission options for funds and ETFs. See our broker comparison table. 

Platform fees – index funds and ETFs are generally treated the same by flat-fee brokers. 

Percentage-fee brokers tend to become more expensive for funds at a certain point. When they do you’re better off switching to a flat-fee broker, or only using ETFs via a broker who caps its fees. 

Fully optimising investment fees is a complex area but the upshot is that beginners will often find index funds are cheaper than ETFs until they reach the £20,000 threshold in an ISA and more than £60,000 in a SIPP. That’s true so long as your broker offers zero-commission fund trades. 

FX fees – some ETFs incur foreign currency conversion costs from your broker. Whereas vanishingly few index funds fall into the same punji pit. 

You’re fine if your fund’s webpage or factsheet says its base currency is GBP. Check your ETF’s base currency and trading currency is GBP to avoid additional FX fees.

ETF vs mutual fund vs index fund

ETFs, mutual funds, and index funds are all types of open-ended collective investment fund. 

But what’s an open-ended fund?

Well, it’s a collective investment vehicle that can create new fund shares (or units) to meet demand from buyers. It can also cancel shares to satisfy sellers. This mechanism ensures that a fund’s value rises and falls in line with the assets it holds (known as its Net Asset Value (NAV)).

Common open-ended fund legal structures include: Open-Ended Investment Companies (OEICs), Unit Trusts, and ETFs.

The alternative approach is a closed-end product such as an Investment Trust.

A closed-end fund restricts the number of shares available in the fund itself. It doesn’t add or subtract new shares as money flows into and out of the fund – rather the price changes with supply and demand. The upshot is that the price of a closed-ended fund can include a substantial premium or discount on top of its NAV. That creates a whole new dimension of risk and complexity that most passive investors can do without.

Index funds in the UK are commonly set up as OEICs. Some are structured as Unit Trusts, some as Investment Companies with Variable Capital (ICVCs).

The practical difference between these types is negligible from an investor’s perspective, except that Unit Trusts have a bid-offer spread. 

Mutual funds are the US equivalent of OEICs. But the term ‘mutual fund’ has crept into the UK investing lexicon as a collective noun for our minefield of open-ended fund types. 

You may also stumble across European equivalents such as SICAVs (société d’investissement à capital variable) and FCPs (fonds commun de placement).

If you’re ever in doubt as to the suitability of a fund, look out for the acronym UCITS in its name, or on its homepage or factsheet. 

The Undertakings for the Collective Investment in Transferable Securities (UCITS) directive is a European regulatory standard. It helps regulate funds that are deemed suitable for use by everyday investors1 across Europe including the UK.  

ETFs vs OEICs 

Effectively this entire article is about ETFs vs OEICs because most index funds are classed as Open-Ended Investment Companies. 

However, actively managed funds are structured as OEICs, ICVCs, and Unit Trusts, too. 

Active funds are not bound to track an index. They can follow whatever strategy their manager thinks best. This freedom to pick stocks and time the markets imposes higher costs on active funds. Such fees undermine active funds performance on aggregate, making index trackers the better bet. 

A curious problem for index funds is that they can be hard to find among the long lists of active funds maintained by brokers or your workplace pension scheme. 

The best way to find index funds is to:

  • Navigate to your broker’s fund screener / selector page. 
  • Choose your asset class or fund provider / manager. 
  • Order the list by a fund charge such as the OCF or TER. 
  • (Index funds are cheaper than active funds so will normally congregate at the top using a fee filter like this.)
  • Now pick out index funds by looking for products with the word ‘index’ or ‘tracker’ in their name.
  • If the product combines the ‘index’ or ‘tracker’ naming convention along with the OEIC, ICVC, or Unit Trust label then it’s almost certainly an index fund.
  •  The clincher will be the description of the fund’s ‘investment approach’ or ‘objective’. It should say something like: ‘The fund’s aim is to closely track the performance of index X.’

Only a few fund providers actually carry a decent number of index funds in their range. We name the main players to search for in the next section. 

Beware too that there are a handful of ETFs on the market that use active management strategies. They’re few in number though and should be clearly labelled. You’ll probably spot them because they’ll sport an unusually high OCF for an Exchange Traded Fund.

Is an ETF an index fund? 

Technically an ETF is an index fund because it is an investment fund that tracks an index. However, the term ‘index fund’ is more commonly used to distinguish index-tracking OEICs, Unit Trusts, and ICVCs from Exchange Traded Funds.

Note, that neither active ETFs nor active funds can be described as index funds because they are not bound to follow a recognised index.

​​ETFs vs index funds: choice

ETFs vastly outnumber index funds. If you want to invest in a niche sector or theme then you’ll likely find an ETF to fit the bill. 

The following brands offer an extensive range of ETF options for UK investors:

  • iShares
  • Vanguard
  • Xtrackers
  • SPDR
  • Amundi
  • HSBC
  • L&G
  • Lyxor

Index funds are fewer in number but still provide plenty of choice. Especially if you want exposure to big, diverse markets via global trackers and bond funds, among other asset classes. 

The index fund market leaders are:

  • Vanguard
  • iShares
  • Fidelity
  • HSBC
  • L&G
  • Aviva
  • Royal London

Most brokers offer both types of tracker but you’ll find the occasional platform that restricts you exclusively to funds or ETFs.  

Our low-cost index funds and ETFs page offers a useful snapshot of the tracker market, divided by sub-asset classes.

ETF vs index fund UK

If you’re searching for ETF vs index fund UK info you’ll probably uncover plenty of US articles discussing pros and cons that just don’t apply over here. 

Here’s a quick list of the areas where there’s no significant difference between ETFs and index funds in the UK:

  • Capital gains
  • Dividend reinvestment – just use accumulation funds which exist in ETF form too.
  • Stock / securities lending

Stock-lending is a common practice that is product agnostic. ETFs, index funds, active funds, investment trusts and even your broker can lend out your securities to third-parties. 

It all depends on the policy of the product provider. Not everyone does it and you can choose ETFs or index funds from providers who don’t if you want to. 

A fund or ETF provider will state on its website which products are not subject to securities lending. 

The important thing is that companies are transparent about their lending policy and share the proceeds with investors who bear the counterparty risk.

Are index funds safer than ETFs?

Index funds are not safer than ETFs. Your capital is at risk in both tracker types, just as it is in any investment. 

However, ETFs are riskier than index funds in the sense that they’re not covered by the UK investor compensation scheme whereas some index funds are. 

In short, if your product provider is a UK authorised firm (as defined by the FCA) then its UK-domiciled funds are eligible for compensation. 

However, funds domiciled overseas are highly unlikely to be eligible. All ETFs are domiciled abroad hence you’d find yourself whistling should compensation ever be needed. 

Thankfully the scheme hasn’t ever been called upon to bail out owners of a major fund provider. Moreover, the payout terms are quite narrow. The most you’d ever receive is £85,000 per insolvent firm. 

But many people don’t realise that overseas funds and ETFs aren’t covered by the UK scheme.

You can check your index fund or ETF domicile on its homepage or factsheet. 

Riskier ETF types

There are a range of exotic ETFs that are fundamentally riskier than vanilla index funds because they behave in unexpected ways that require considerable expertise to understand. 

To play safe, run don’t walk from:

  • Leveraged ETFs – which multiply the daily gains (or losses) of an index. For example: the FTSE 100 x2 or x3.
  • Inverse or short ETFs – deliver the opposite of the daily return of an index. For example, the ETF rises 1% if the FTSE 100 falls 1%.
  • Sector or theme ETFs – invest in energy firms or AI or gold miners or many other slices of the market. More straightforward than the two previous banned substances, they still have no place in a passive investor’s portfolio.

Other Exchange Traded Products (ETPs) that are related to ETFs but entail greater risk include:

  • Exchange Traded Commodities / Currencies (ETCs) – complex investment products that track oil, cattle, renminbi, and so on. (Gold ETCs are okay.)
  • Exchange Traded Notes (ETNs) – an uncollateralised debt instrument for tracking hard-to-reach markets such as volatility and carbon emissions. 
  • Certificates – a European version of an ETN. 

Exotic ETPs can be expensive, harbour hidden risks, and often owe more to financial fashion than financial sense. Don’t venture down the back alleyways unless you know what you’re doing. And even then think twice.

Synthetic ETFs

ETFs divide into two main types:

Physical ETFs hold the securities tracked by their index as you’d expect. They either replicate the index in full or sample a significant proportion. So far, so normal.

Synthetic ETFs, in contrast, do not own the securities in their index. Instead they buy an instrument known as a total return swap from a financial institution, such as a major investment bank.

This total return swap pays out the return of the index tracked by the synthetic ETF. The ETF pays that return to its investors (minus costs) while the financial institution gets the ETF’s cash as well as any return from the collateral the ETF manager has set aside.

If you’re currently shouting: “What witchcraft is this?” I wouldn’t blame you – they are weird.

Synthetic ETFs are exposed to counterparty risk – in other words, they could lose money – if the swap provider defaults on its obligation to pay the return of the index.

In this instance, the ETF would use its collateral to pay investors back the value of their holdings. However, there is no guarantee that the collateral would fully cover investors if a swap provider defaults during a market meltdown.

You can avoid counterparty risk by choosing ETFs or index funds that physically replicate their index and that don’t lend out their holdings.

The ETF’s homepage should say whether the ETF is synthetic or physical. Email its provider if you can’t find what you’re looking for.

Index funds physically replicate their index. They don’t exist in synthetic form.

Index funds vs ETFs for beginners

Index funds are more suitable for beginners than ETFs because they’re the most straightforward tracker type. They should be your first choice where possible.

ETFs are a slightly more complicated product. However there are plenty of plain, vanilla ETFs that are just fine for beginners. 

Ultimately, you won’t go far wrong if you stick to straightforward ETFs that track familiar markets like the developed world, the UK, government bonds, and the emerging markets.

In your hunt you’ll also likely dig up highly specialised ETFs (and related animals) that offer exposure to niche markets.

Steer clear of those unless you’re absolutely sure you understand the risks. 

ETF or index fund?

Neither ETFs or index funds are better. They’re both excellent building blocks for your portfolio, and you should feel free to pick the investment that best fits your plan. 

Ultimately, the ‘ETFs vs index funds’ match-up is a score draw. Index funds are marginally simpler to understand and use but ETFs are unmatched for choice and diversity.

Passive investors should feel free to mix and match the two types for the best of both worlds.

Take it steady,

The Accumulator

Note: We kept older reader comments intact when we completely rewrote this article in 2022. Some aspects of the ETFs vs index funds debate have changed over time, so please keep that in mind.

  1. Or retail investors as we’re known in the finance industry. []
{ 61 comments… add one }
  • 1 Dave Richardson November 16, 2010, 11:30 am

    Thanks for another very useful article. I really appreciate you ability to make financial matters comprehensible. Is there a good list UK suppliers of ETFs and/or Index funds? Or a price comparison site?

  • 2 KaKTy3 November 16, 2010, 12:14 pm

    The other negative point towards ETFs for a small investor is that by being shares they are being treated as shares by the fund supermarkets. For example, Hargreaves & Lansdown (who offer a very wide choice of UTs and OEICs) will charge the following annual fees on ETFs within their otherwise pretty good ISA product:
    • an additional annual management charge of 0.5%+VAT to a maximum of £200+VAT.

    You need to add that to TER for a like-for-like comparison.

  • 3 The Accumulator November 16, 2010, 11:23 pm

    @ Dave – Thanks, Dave. For ETFs I use this site: http://www.etfexplorer.com/uk/topics

    For index funds:
    http://www.investmentuk.org/consumer-centre/find-a-fund
    (Make sure you tick the tracker box)

    Then for belt and braces I double-check on MorningStar.

    @ KakTy3 – you can avoid that H&L fee. Try the likes of iii, x-o, TD Waterhouse (over £3600 or using their regular investment scheme).

  • 4 Gabriela November 16, 2010, 11:42 pm

    Hi Dave,

    My company is working on that and much more. If you go to the website, you can sign up for the beta.

    Gabriela

  • 5 Jenny September 9, 2012, 10:51 am

    Studying for Chartered Insurance Institutes AF4 Investment Planning exam in October and your article has been a valuable resource. Thank you.

  • 6 Trevor November 25, 2012, 8:53 pm

    I`m 21 years old with £10K to my name.
    for the past 2 weeks I`ve been trying to research ISAs, Index funds and ETFs, but the level of skewed information and conflicting fund prices out there is unbelievable.
    Idealy I`d like to invest 10 x £1000 in index funds and ETFs or on my ISA/ accumulating divideds etc for the next 10 years (until I`m old enough to figure out how to invest or what to do with the money).
    Where can I get the cheapest TERs and below 0.5% charges without having to pay silly additional charges, like non-trading penalties or paying to reinvest my dividends?
    Any good discount brokers or fund supermarkets out there?
    Trevor

  • 7 The Investor November 26, 2012, 10:33 am

    @Trevor — We can’t give personal advice, but you will find plenty of good passive investing articles on Monevator including this one on creating your own ETF portfolio and one on Vanguard’s one-stop ‘Lifestrategy‘ passive solution.

  • 8 Graham January 20, 2013, 2:44 pm

    Great website, well done!! I am a passive investing convert and in tune with your sentiments from 2010 above about mutual index funds v’s ETF’s. Are you still of the same view now 2 years on with an increasing number of ETF’s available?

  • 9 Karen February 12, 2013, 9:22 am

    TA and TI,

    In light of the fund charges being introduced by the platforms, do you think the argument has swung in favour of ETFs, or are you still of the opinion that funds ‘win’?

    I’m afraid my investing has been more catatonic than passive. Whilst on the plus side I have ridden out the downturns, unfortunately I’ve only recently woken up to how high TERs are costing me.

    I’m now looking to rearrange my ISA portfolio from the managed funds I’ve held for many years, to index trackers so I can benefit from lower costs! I was intending to go with clean funds on TD, but their announcment regarding the 0.35% charge has made me rethink that decision.

    Now undecided on whether to go with funds or ETFs, I would welcome any comment.

  • 10 The Investor February 12, 2013, 9:53 am

    @Karen — We’ll have a new article on Clean Funds in the next two hours from TA that you might find helpful. (Serendipity, rather than extremely speedy writing from the man in response to your query. 😉 ).

  • 11 The Accumulator February 15, 2013, 9:55 am

    @ Karen – it’s a closer call now but the FSA has yet to make a decision on whether platforms can no longer take commission. Some platforms – like TD – are making the move ahead of time, but some, like Cavendish Online and iWeb are sticking to the old model. We don’t know which way the FSA will go, though the decision should get made in the next 6 months.

    Let’s assume though, that explicit charges come in for all platforms. You’ll generally get charged a platform fee, no matter, what investment you hold, but some platforms, like Best Invest or Hargreaves Lansdown, don’t charge dealing fees for funds. So we end up back where we were, only at a higher price.

    I personally find there are some situations where it’s better for me to use ETFs and some where it’s better to hold funds (cost and availability of vehicle tends to vary across the asset classes), so I mix and match.

    Sorry, for the long and rambling answer, but it’s more complicated than trying to piece together a shattered vase.

  • 12 Tony August 22, 2013, 6:56 am

    Hi,

    I have been looking to get some exposure in Emerging Markets at minimum cost outside of an ISA however I am a little confused about the maths of when a fund is good or an ETF is preferred or if I am missing a factor.

    For example for a £10,000 lump sum investment:

    Vanguard FTSE Emerging Markets VFEM has an OCF of 0.45 or £45 plus trading cost with no stamp duty.

    BlackRock Emerging Markets Equity Tracker D has an OCF of 0.28% or £28 plus £50 stamp duty or £78 plus trading cost.

    So this would tell me you would be better of with the BlackRock tracker fund if you were planning on holding it (as I am) more than 2 years correct?

    Can anyone see if I am missing something else here?

    Thanks very much!

  • 13 The Accumulator August 22, 2013, 9:15 am

    Hi Tony,

    Yes, on the face of it, you’re better off with BlackRock.

    The missing elements are:

    Are there any differences in the benchmarks tracked that may make one a better bet than the other? e.g. is one more diversified than the other, does it include more mid-cap, small cap companies?

    Tracking error – most funds are prone to falling short of their benchmark. Additional costs will show up here. http://monevator.com/tracking-error-how-to-measure-it/

    Broker costs – depending on your broker you may pay no dealing cost for funds, or no platform fee for ETFs.
    http://monevator.com/compare-uk-cheapest-online-brokers/

    Neither of these options will costs you stamp duty. Stamp duty is only paid on funds dealing in UK equities.

    Hope that helps a bit!

  • 14 Tony August 28, 2013, 11:56 pm

    @ The Accumulator

    Thanks so much for the super quick reply and for clearing up the stamp duty issue! I have used the broker chart which is a huge help and I will check on the benchmark and portfolio differences.

    As you can tell I am just starting out on the road to secure a more hopeful future so I am very grateful for the guidance.

  • 15 Ross P March 7, 2014, 12:16 am

    I notice its been a while since the last comment on this article, but I’d firstly like to reiterate how useful I found it; showing that well written explinations hold their value!

    Secondly, a year on from @Karen’s comment, I was wondering if maybe the conclusion you drew it ready for another review? As you may know from my other posts, I have just opened a S&S ISA with YouInvest (AJ Bell) and as far as I can make out, they charge a 0.2% annual charge for all funds I hold, but not for ETF’s. Assuming I pick an ETF that I can invest in on a regular basis (£1.50 a go), and the TER is comparable to the equivalent Fund, then the ETF has a 0.2% bonus straight away….assuming i am investing for the long term and any bid-offer spread costs are negated!
    Have I missed something? Anyone got favourite ETFs, they’d like to recommend? The Vanguard Emerging Equities one perhaps?

  • 16 Oliver July 4, 2014, 11:45 am

    Another useful piece.
    The YouInvest ISA is appealing for this reason above, i.e. any indexes held as ETFs only hold the initial brokerage fee and the charge of the ETF. Regular investment and/or building up lump sums can help negate that.
    There are some on the internet that say that ETFs, at least physical ones, track their indexes better, and sometimes have lower fees. In the tracking error article it talks about Vanguard lending out shares etc, and as far as I know this is not the case for physical ETFs.
    It also makes pricing easier to calculate as there is no ongoing charge by the broker

  • 17 The Accumulator July 6, 2014, 7:04 pm

    Hi, I need to update the cost element of this article as recent changes now mean that most brokers will charge a platform fee for funds but no dealing fees. iWeb do not charge a platform fee but charge dealing fees.

    There are more brokers that waive their platform fee for ETFs and all will charge you dealing fees.

    Full details on how the broker’s stack up here: http://monevator.com/compare-uk-cheapest-online-brokers/

    @ Ross P – check out VRWL – Vanguard’s All World ETF – the entire global equity market in one ETF.

    @ Oliver – Stock-lending is a common practice that is product agnostic. You will find physical ETFs, active funds, investment trusts and so on can lend out stocks. It all depends on the policy of the product provider. The important thing is that they are transparent about it and share the proceeds with the investors who bear the risk.

    Generally you’d expect synthetic ETFs to track the index better than their physical counter-parts but there’s little in it. Again, much depends on the diligence of the product providers.

  • 18 Oliver July 7, 2014, 4:46 pm

    I see, thanks!

  • 19 RossP July 8, 2014, 2:34 pm

    @The Accumulator – thanks for the recommendation but I’m assuming you meant VWRL rather than VRWL?

    Having looked on the YouInvest ‘research centre’ I found two Vanguard FTSE All-World UCITS ETF’s ; one called VWRL and the other VWRD. I brought up both fact sheets and sure enough one is in pounds sterling and the other dollars – confusion solved I thought. Not so. A closer look at the USD one reports a premium of 0.02% (presumably to NAV) and a trailing return of just above the benchmark. The GBP version on the other hand reports a Discount of 41.61%(!) and a trailing return considerably below the benchmark. Surely this significant difference can’t just be down to foreign current exchange rates can it?

    Can you offer any insights?

    N.B both state a TER of 0.25% and exactly the same list of ‘Top Holdings’.

  • 20 RossP July 8, 2014, 2:49 pm

    Ah….wait, perhaps I can answer my own question. Despite the same underlying holdings, I presume these two ETFs are separately tradeable and because of their nature as ETFs as opposed to funds, the difference in premium or discount to NAV is purely down to market sentiment, meaning that people in the UK (those most likely to be buying the GBP version) currently view the worlds stock market in a much more negative light than their American counterparts.

    By this reasoning I guess I should invest asap in the GBP version as surely a 41% discount offers a cheap deal and potentially a much higher yield?

  • 21 The Accumulator July 8, 2014, 6:17 pm

    @ Ross – right, VWRL, should never trust my memory for ETF tickers.
    Where are you seeing that premium/discount information? Departures from NAV are generally arbitraged away very quickly, this piece explains: http://www.etf.com/etf-education-center/21014-what-is-the-creationredemption-mechanism.html
    Discounts on that scale are only likely to persist during a period of massive market turmoil.

  • 22 Naeclue February 3, 2015, 12:43 pm

    Good article. A few minor points.

    The FSA no longer exists, the FCA is responsible for regulation now.

    Another advantage in favour of UK domiciled UTs/OEICs for the really paranoid is that investors are protected against fraud or gross incompetence by the fund manager by an FSCS guarantee – the first £50,000 is protected for each fund provider. Not sure about Irish domiciled UTs/OEICs. With ETFs you are on your own, but I don’t think an ETF listed anywhere in the world has ever defaulted (unlike structured products).

    I would add Fidelity to your list of market leaders offering OEICs. They have recently slashed their prices as well, making them much more competitive.

  • 23 The Investor February 3, 2015, 1:13 pm

    @Naeclue — Thanks for the FSA spot! Bit silly, given we’d just updated the article, but what’s an S between faceless bureaucratic bodies. 😉 I’ve changed it in the text (indeed I am presuming the FCA retained regulation of ETFs, seeing as it remit has generally only grown wider. The Accumulator probably knows, but just wondering in light of this slip if it’s worth a double check).

    ETF domiciles/compensation is a can of worms. See this article:

    http://monevator.com/investor-compensation-scheme/

  • 24 Naeclue February 3, 2015, 1:30 pm

    A few geeky remarks about stamp duty. I hope not too OTT for an introductory article.

    On the whole investors in UTs/OEICs and ETFs can end up paying less stamp duty than people who invest directly in shares. For UTs/OEICs, the fund only has to buy new shares when cash being invested by new investors each day exceeds cash being withdrawn. If they balance, or more money is being withdrawn than invested, no shares are bought so no stamp duty paid.

    Vanguard have recently cut the charge on new investments in their UK all share tracker from 0.5% to 0.2%. The 0.5% was probably required when the fund was launched as much more money would have been invested each day than was being withdrawn. If they had not cut the charge, I suspect that they would have ended up beating the index as the extra 0.3% going into the fund was not really needed any more to offset the cost of stamp duty.

    For ETFs, stamp duty manifests itself as a premium to net asset value. UK market ETFs trade at a premium to NAV most of the time, although (for Vanguard at least) this premium averages a little under 0.5%. Provided somebody sells at the same or higher premium as purchase, they should not lose too much capital wise (there is a bid/ask spread, but that is tiny compared to stamp duty and fluctuations in NAV). But paying a premium does mean a slightly reduced dividend yield compared to that if the ETF had been bought at no discount to NAV. However, that would be the case with direct share investment as well.

    All in all I have come to the conclusion that in the UK market, UTs/OEICs should be slightly better for long term investors than ETFs with the same TER, but it is a close run thing and the decision would more more influenced by other factors such as platform charges and dealing costs, as discussed in the article.

  • 25 weenie February 3, 2015, 2:03 pm

    I’m invested in just the one ETF, the Vanguard All World High Dividend Yield (VHYL) and specifically opened an account with YouInvest as per @RossP. I too use the regular investing option so only pay £1.50 at a time.

  • 26 Gregory February 3, 2015, 5:46 pm

    @weenie – Did You know that the Vanguard FTSE All-World High Dividend Yield UCITS ETF is not a value fund? It is a blend style. See Annual report page 13. https://www.vanguard.co.uk/adviser/adv/investments/etfs/detailoverview?portId=9506&assetCode=EQUITY So The morningstar is wrong. Compare the fund charasterics. According to the morningstar the fund has 1,67 P/B but according the Vanguard factsheet the P/B is 1,9 (31/12/2014). Plus, from the launch (2010) of the FTSE All-World High Dividend Yield INDEX (not the Vanguard fund) it has underperformed the simlpe FTSE All-World INDEX. See FTSE website.

  • 27 weenie February 3, 2015, 10:40 pm

    @Gregory – hmmm…I see what you mean but I guess I could live with this for a while. It’s been invested for less than a year so I’ll just see how it goes before switching. Thanks for pointing this out for me.

  • 28 Naeclue February 3, 2015, 11:36 pm

    VHYL has lower p/e and p/b than VWRL, so the higher yielding fund is more “Value” than the normal tracker. VWRL total return for 2014 was 4.23% compared with 1.24% for VHYL. Considering annual volatility will be somewhere around 12%, the difference in performance is insignificant, but even if it was not, betting on last years winners is a really good way to lower your long term returns.

    Instead of looking at past performance, you would be better off considering charges and diversification and working out what you want to achieve with the investment. e.g. VHYL is less diversified than VWRL, but has less invested in US shares (which is probably the reason for the poorer performance last year). Is that what you want? Charges on VHYL are higher and because the yield is higher, you will pay more dividend withholding taxes and FX conversion charges on VHYL. On the other hand, VHYL has a tilt to value and has a higher dividend, which you may prefer. The value tilt might be better in the long term, but you may have to wait 20+ years to see that theory turn into reality (and it may not even then).

    Personally I would prefer not to put half of the money I allocate to equities into any one country and that would swing it to VHYL for me if that was the only equity fund I held, but I don’t think there is any clear cut reason why one ETF should be considered much better than the other. Invest in whichever suits you best, or invest 50% in each and get the average performance of the two.

  • 29 Naeclue February 3, 2015, 11:49 pm

    RossP, this sounds like poor data. Best not to rely on data from brokers or sites like Morningstar or Bloomberg. Always check the web site of the provider for reliable information before investing, in this case Vanguard. That will often mean you have to pretend you are a financial advisor or institutional investor so you can get full information on an investment.

    Unless you really want to pay the extra FX charges (or have a multi-currency broker account), always go for the ETF priced in pounds where more than one version is available.

  • 30 The Savvy Fund February 4, 2015, 12:09 am

    I would echo the point made by naeclue about compensation.

    This may be a once-in-generation event risk, but if / when it happens I would be astonished if the Irish or Luxembourg state would have the financial resources to meet claims, because the size of funds are so huge compared to the size of their economies.

    Pity there are no UK domiciled ETFs at all.

  • 31 Bob February 4, 2015, 1:39 am

    Has anyone managed to buy the GBP priced ishares physical gold ETC (SGLN) on IWEB?

    Despite showing in their Research centre only the USD version (IGLN) appears as able to purchase.

    I’ll call them tomorrow but this article seemed like too good a coincidence.

  • 32 SemiPassive February 4, 2015, 11:30 pm

    Was forced out of index funds into ETFs by the H-L charging structure changes. There are a few quirks which benefit investors who have built up a reasonable pot, especially for SIPPs as the 0.5% platform charge cap is at £200 rather than £45 for ISAs. So the goal is to build up enough to diminish the effective charge to under 0.1%.
    And the regular saver charges of £1.50 are ok if you’re bunging a few hundred quid into a single ETF or Investment Trust per month. Again, this is more likely to suit someone with an already quite diversified pot so they can progressively rebalance into one ETF/IT at a time, perhaps changing it every 6 months or yearly rather than splitting monthly investments and multiplying charges.

  • 33 NearlyThere February 7, 2015, 10:11 am

    @SemiPassive which ETFs can you drip into at HL? I thought they only did some top FTSE shares.
    I drip feed into broadly equivalent funds (for the free dealing), then swap them out into my ETFs every so often, and re-balance at that time.
    To reduce the ‘leakage’ by fees from the tax-wrapped accounts, I set up a drip feed into the fund&share account which covers the charges in ISA/SIPP, then have the charges for the tax-wrapped accounts taken from the fund&share account.

  • 34 The Accumulator February 7, 2015, 3:23 pm

    @ Naeclue – thank you for your excellent comments. Your name is misleading 😉 Fidelity now in the list.

  • 35 SemiPassive February 8, 2015, 5:54 pm

    NearlyThere, I think I’m wrong actually, having just checked under there Monthly Savings > Add Share list I can only see a few of the more well known Investment Trusts among the regular company shares, but no ETFs. Looking back I did a handful of one off ETF buys and drip feeding into City of London IT at the moment.
    Which means periodic rebalancing as you already do is the only way to top up without incurring higher transaction costs.

  • 36 PB February 18, 2015, 6:19 pm

    I’d very much like to see a pros and cons of physical ETFs vs investment trusts.

    Thanks.

  • 37 Cg August 19, 2015, 2:37 pm

    Hi, excellent article!. Just wondering if you knew what options do you have for buying passive ETFs when you are a British expat. I can’t obviously find a trading platform to buy these funds.

  • 38 The Investor August 19, 2015, 2:49 pm

    @Cg — Hi, have a look at the article below. It won’t really answer your question, but might tell you where you can do so:

    http://monevator.com/expat-investing-and-tax-us-and-uk/

  • 39 Cg August 19, 2015, 3:39 pm

    Thats v helpful. Thank you!

  • 40 Froll September 25, 2015, 3:29 pm

    Thanks for this great article 🙂

    RE pricing of ETF trackers –

    If, for whatever reason people plough into buying a global equity ETF tracker during the day, does that push its price up above what it’s really worth? i.e. above the underlying equity value of the global market at the time

    If so, this is not good, as you will ‘overpay’ for what you’re getting?

    Apologies if I’m not understanding this correctly but if it’s a tracker isn’t it supposed to ‘track’ and be representative of what it’s tracking and therefore not be swayed by people buying it up all at once for whatever reason?

    Bit confused.

    Thanks for any pointers on this 🙂

  • 41 The Accumulator September 26, 2015, 12:09 pm

    Hi Froll, arbitrage keeps ETFs honest. If the ETF’s value exceeds underlying assets then certain financial operators called authorised participants (APs) buy the underlying basket of equities in the open market and give that to the ETF provider in exchange for a new ETF share. The APs then sell that ETF share for more than they paid for the equities and they’ve got a tidy profit. They keep doing that until their constant selling of the ETF forces its price down until its back in line with underlying assets.

    It works the same in reverse if the ETF is worth less than its underlying assets. Then they buy up ETF shares and give them back to the provider in exchange for the stocks that they sell at a profit. Buying up the shares increases the price until it’s in tune with the underlying.

    This mechanism keeps values roughly where they should be and as long as you’re not buying and selling like a day trader or during peculiar market circumstances like a flash crash then you shouldn’t even notice. Try using a charting tool to chart a popular ETF against its index – you’ll notice that they track very well over reasonable lengths of time. If they don’t, they’re out of business.

  • 42 Froll September 26, 2015, 3:01 pm

    Thanks for taking the time to explain that to me, it’s very much appreciated.

    Thanks also for this informative and really helpful site, keep up the great work guys 🙂

  • 43 Slavo December 17, 2016, 4:44 pm

    This was a very useful article. I have been reading your blog for about a year now, and find your insight very helpful. On the specific topic, I’ve been looking at investing in a S&P 500 tracker of some sort, and searching for the cheapest option. I’ve looked at various index funds and ETFs, so this article helped a lot. One question I have is this:

    If ETFs have both an OCF charge AND a trading cost, why on earth would someone choose them over index funds for passive long-term investment? In this specific example, I’m looking at an iShares S&P 500 tracker ETF with 0.40% OCF + my platform’s trading fee, versus a HSBC American Index fund, with a 0.18% OCF, and a 0.10% loyalty discount from my platform, resulting in a total 0.08% OCF and zero trading cost. This is a big difference, and no matter how accurately these two track the S&P 500 index, the costs will be lower with the HSBC index fund in the long run.

    Am I missing something obvious? This looks like a no-brainer to me, but I wanted to ask if I should be looking at other things that I’m not considering.

  • 44 The Investor December 17, 2016, 4:47 pm

    This is a big difference, and no matter how accurately these two track the S&P 500 index, the costs will be lower with the HSBC index fund in the long run.

    This doesn’t answer your question (and isn’t related to those two funds you mention) but this statement isn’t quite correct, if the definition of ‘cost’ includes returns foregone. A fund with a wider tracking error over many years may well do worse than a fund with a *higher* OCF. Remember a wide tracking error may include a bunch of ‘hidden’ costs, for starters.

    Not it’s likely to be a big issue with mainstream trackers following the S&P 500 but it just jumped out at me. 🙂

    [Oops: Edited to correct my higher/lower typo! 🙂 ]

  • 45 The Investor December 17, 2016, 4:49 pm

    p.s. Thanks for the comments about the site! Hopefully my co-blogger and tracker fund maven co-blogger will come along with more thoughts for you anon, but everything is quite busy with Christmas…

  • 46 The Accumulator December 31, 2016, 8:25 pm

    Hi Slavo – sometimes ETFs are cheaper than index funds in particular categories, especially when you can buy them in blocks large enough to render the trading cost almost moot. Some platforms charge considerably more for index funds than ETFs. Sometimes you’ll find only an ETF covers the asset class you’d like to own and there is no index fund alternative. But don’t hesitate where you find a cheaper index fund.

  • 47 Haphazard February 13, 2017, 10:25 pm

    I’m about to take the plunge and buy my first ETF (Japan tracker, hedged GBP, couldn’t find an OEIC that would do this). I’ve been watching the bid/ask spread. But there’s something really basic I don’t understand. When I actually buy, the data I will have is only the latest market data. I can set a limit order to limit the maximum price I pay. But this doesn’t control the spread. When I buy OEICs, they seem to take a while to settle. So for ETFs, given that they trade all day like shares, do platforms generally execute the order much more quickly? Otherwise, what’s the point of watching the spread to decide when to buy?

  • 48 Harps March 11, 2017, 4:13 pm

    Comparing, for example a Vanguard Index fund (VDEXEIA) against its ETF equivalent (VERX), the Index fund significantly outperforms the ETF: 26.92% v 15.79% for the year up to Feb 28th. That the article above does not mention such a performance disparity clearly suggests I’m missing something…

  • 49 The Accumulator March 13, 2017, 10:06 pm

    something weird is going on there, Harps. According to Vanguard’s website, the two are clones in nigh on every respect bar returns. Same cost, same no of holdings bar 3, same top 10 holdings, same geographic and sector split. They even follow the same index, yet the index returns are reported very differently for the two funds as well. Which can’t be right. Have you emailed Vanguard about it? I’ve checked the return numbers on Morningstar and Trustnet but they don’t tally with Vanguard’s.

  • 50 Ruby August 14, 2017, 6:31 pm

    I’ve got a couple of questions (I’m new to this, so please be gentle…) :

    1. In the very helpful “Compare the UK’s cheapest online brokers” article (http://monevator.com/compare-uk-cheapest-online-brokers), below the table, there is a statement:
    “ETFs vs fund portfolios – Below around £25,000 you’re probably better off with funds.”
    I’m wondering where this assertion comes from?

    2. In the above article, I can’t really see anything relating to dividends. Generally, index funds can be bought in two flavours: “accumulation class” (dividends automatically re-invested) and “income class” (dividends paid out).
    Now as far as I know, this is not the case with ETFs – dividends are automatically paid out. (Although I think if you use Vanguard as a broker, there is an option to automatically reinvest dividends on ETFs).
    Should this difference between index funds and ETFs ever be a consideration (for someone who wants to ‘accumulate’) when trying to choose between ETFs and funds? Or is it only a consideration for those who are too lazy to reinvest their dividends every quarter?
    (I did also find this, which was useful – http://monevator.com/income-units-versus-accumulation-units-difference/)

    I hope someone (maybe even The Investor / The Accumulator) could answer the above.

    All I want to do is own the world… 😀

    … OK, I want to track the world equity markets as best as I can, and have it as a large part of my portfolio – I’m a follower of Lars Kroijer with a highish risk tolerance.

    I’m currently swaying towards Vanguard’s FTSE All-World UCITS ETF (VWRL), which seems to be a popular choice.

  • 51 The Accumulator August 18, 2017, 12:03 pm

    Hi Ruby,

    The £25K figure comes from an analysis of a fund portfolio benefitting from £0 trading fees and a low platform fee versus an ETF portfolio that pays trading fees.

    The benefits of funds reduce the less you trade, and it’s always a bespoke calculation that depends on individual circumstances. Here’s the assumptions that are used to get to the £25K rule of thumb figure for the broker table:
    “Our calculations assume one purchase per month and four sales per year, and that you take advantage of lower priced regular investment schemes when available. Portfolios consist of funds or ETFs or a 50:50 mix.”

    Some ETFs are available in accumulation flavour (also known as capitalising in ETF circles). Though it’s only a fraction in comparison to index funds. Yes, I think it should be a consideration if you’re just starting out and have a very small portfolio. Anything you can do to reduce trading charges is a good thing.

  • 52 New Investor March 1, 2018, 9:04 pm

    Hello,

    On the question of tax, I would like to refer to ivanopinion’s comment on your earlier post, which makes it seem like ETFs have a tax benefit over OEICs:

    http://monevator.com/etfs-and-the-peculiar-effects-of-withholding-tax/

    The comment is:

    “I suppose these figures all change with the introduction of the dividend tax rates for 16/17 onwards. I assume it applies to divs from US and Irish ETFs. Unless anyone knows different…

    I’ll take a stab at the new figures, but if anyone thinks I got it wrong, they are probably correct.
    1) Direct holding in US listed ETF, with form filled in to get WHT reduced to 15%:
    Assume 100 dividend. US WHT = 15
    (a) If div income is covered by personal allowance/£5k div allowance (reducing to £2k from April 2018)/ISA/SIPP, no UK tax, so total tax suffered is 15.
    (b) Basic rate taxpayer pays 7.5%, on the gross 100 div, but offset 15 WHT, so no further tax to pay. Total tax suffered is 15.
    (c) Higher rate taxpayer pays 32.5%, minus 15 credit. Total tax suffered = 32.5.

    2) Holding in UK listed, Irish domiciled ETF, which invests in US equities:
    Assume 100 dividend income earned by the ETF. US WHT = 15. ETF declares dividend of 85 to UK investor.
    (a) If div income is covered by personal allowance/£5k div allowance (reducing to £2k from April 2018)/ISA/SIPP, no UK tax, so total tax suffered is 15.
    (b) Basic rate taxpayer pays 7.5%, on the 85 div = 6.375. No WHT credit, as the ETF suffered it, not the UK investor. Total tax suffered is 21.375 (versus 15 on the US listed ETF).
    (c) Higher rate taxpayer pays 32.5% on the 85 = 27.625. Total tax suffered = 42.625 (vs 32.5 on the US listed ETF).

    So, there is still an income tax saving by buying a US listed/domiciled US index tracker ETF, rather than UK listed/Irish domiciled. Of course, the US market yields less than 2%, so the benefit is 0.2% of your investment (for a higher rate tax payer). Worth having, but is it worth the potential issues? (FX costs, US estate duty return filing, WHT form)”

    The next comment is also relevant:

    “Just for completeness, here’s my guess about the tax hit on the divs from a UK unit trust investing in US equities, under the new dividend tax rules.

    UK UT receives 100 of dividends from shares in its portfolio, but suffers 15% US WHT, so receives 85. It is taxable at 20% in UK, so UK tax on the gross income of 100 is 20, but claim tax credit for the WHT, so UT has a further 5 UK tax payable. UT has 80 income, net of tax. It then pays cash dividend of 80 to UK investor. No tax credit any more.

    Basic rate tax payer pays 7.5% on the 80, so is left with 74. Total tax cost 26 (vs 21 for UK listed foreign ETF and 15 for US listed ETF).

    40% tax payer pays 32.5% on the 80, so ends up with 54. Effective rate of tax on the underlying 100 is 46%. So, that’s 3% worse than a UK listed ETF, and 13.5% worse than a US listed ETF.

    There seems to be a definite benefit of ETFs over unit trusts/OEICs. This is because the ETF does not pay UK tax itself (assuming it is foreign domiciled).”

    It seems like, even if you avoid US-listed ETFs, a UK-listed Irish-domiciled ETF is superior to a UK-listed OEIC/UT (assuming both are investing in foreign equities) purely for tax purposes.

    Is this accurate?

    Thanks!

  • 53 John March 31, 2018, 2:27 pm

    @New Investor

    Provided the UK OEIC/unit trust invests solely into equities, then it should not pay any UK corporation tax (UK and non-UK dividends are franked, and therefore exempt from corporation tax, as are capital gains). The UK OEIC/unit trust will still be subject to US withholding taxes on US dividends received (at 15%). Therefore, there is no difference in the tax position between an Irish OEIC/ETF and a UK OEIC/unit trust – for equity funds at least.

    A UK OEIC/unit trust does have to pay UK corporation tax (at 20%) on non-dividend income received. However, they can deduct management expenses and all interest distributions to investors first. As such, there is again no difference in the tax position between an Irish OEIC/ETF and a UK OEIC/unit trust – for funds that pay interest distributions (those with more than 60% of their assets in debt instruments).

    That only really leaves a relatively small minority of funds that still have any meaningful UK corporation tax liability, because they receive a non-trivial amount of non-dividend income but are unable to declare interest distributions. It may be worth noting that multi-asset funds such the Vanguard LifeStrategy funds with 40%, 60% and 80% equity are among these (and these accounted for almost all of the UK corporation tax paid by Vanguard last financial year).

  • 54 Daffy July 1, 2018, 10:37 pm

    Harps/Accumulator – the difference in performance data between VDEXEIA and VERX is I think because the former is denominated in GBP while the latter is in EUR

  • 55 James August 17, 2022, 10:02 am

    Fantastic article.

    In the UK, the tax advantages of one over the other are minimal-to-none. However, I wondered if you can comment on whether the same is true in most other countries? I’m thinking particularly of your expat readers, who may find themselves paying foreign taxes for a period of their lives, perhaps in the US, Dubai, Singapore, etc.

  • 56 TedTomato August 18, 2022, 5:36 am

    Good article.

    Just one comment: several providers now offer fractional ETFs, so it’s not necessary anymore to buy entire ETFs. Any amount can be purchased (similar to funds).

    For instance, Trading 212 or InvestEngine offer fractional ETFs

  • 57 The Accumulator August 18, 2022, 11:49 am

    That’s great TedTomato – I missed the fractional ETF offering at those brokers. Have updated. Cheers!

    @ James – Thank you! Certainly I’ve read that there are capital gains tax disadvantages for ETFs vs certain tax-advantaged mutual funds in the US but the situation is complex to say the least.

    So much of tax law exists in an arbitrary grey zone that I generally think people with complex situations – such as ex pats – are better off getting specialist advice. Any piece we could write may quickly become outdated, or just not apply to someone with a particular set of circumstances.

  • 58 Funky Ed Gibbon August 20, 2022, 2:06 pm

    Thanks for a very fulsome analysis. One thing to maybe consider adding is a summary of UK tax implications and differences for UK investors who hold outside of a pension scheme or ISA. Very important to understand/check whether the index fund/ETF is domiciled in the UK and, if not, whether it has UK reporting status (if it is based overseas and doesn’t have UK reporting status, the tax treatment can be harsh and complex). Typical vanilla index funds marketed to UK individuals are domiciled in the UK. The tax treatment and reporting is pretty straightforward and you get the benefit of an equalisation adjustment on your first dividend after purchase (ie. the share of the income earned by the fund before purchase is treated as a reduction in the cost of the investment rather than as taxable income – this should be reported to you by your broker). ETFs are mostly domiciled overseas. This means income from the ETF has to be reported as foreign income unless total dividends are under £2,000. Also, there is no equalisation adjustment and, even if the fund is a distributing fund, you may need to check whether there is any Excess Reportable Income to include on your tax return (your broker won’t work this out for you).

  • 59 White Sheep August 20, 2022, 6:36 pm

    > Technically an ETF is an index fund because it is an investment fund that tracks an index.

    I don’t think this is correct nowadays (it may have been when the article was first published?), there are active ETFs such as ARKK?

    Personally I have started migrating my index funds to ETFs over time. The main reason is that I find rebalancing much easier with ETFs. You can get your whole annual investment management done in a couple of minutes. With funds it often takes close to a week to go through the cycle of “place sell order, execute sell, wait for settlement, place buy order” (or even longer when my platform adds additional delays for unknown reasons).

  • 60 The Accumulator August 21, 2022, 10:17 am

    @ Funky Ed Gibbon – great comment. You’re right, I think I do need to add a section to flesh this out.

    Agreed that the tax treatment on UK domiciled funds is simpler although it’s only a concern for holdings outside of ISAs and SIPPs.

    For anyone who would like more on this:

    Most ETFs (though not all) are domiciled in Ireland or Luxembourg and none in the UK.

    Tax rates for UK domiciled funds are no better than for foreign-domiciled funds/ETFs bar two exceptions:

    If the overseas fund/ETF doesn’t have reporting fund status:
    https://monevator.com/avoid-income-tax-with-reporting-funds/

    Most foreign-domiciled funds have reporting fund status. If they don’t then you can be taxed at a higher rate than normal – but not if your fund / ETF is safely tucked in a tax shelter.

    https://monevator.com/excess-reportable-income/
    Excess reportable income applies to foreign-domiciled funds / ETFs if not held in tax shelters and your dividends / interest exceeds your personal allowances for these items.

    https://monevator.com/withholding-tax-on-dividends
    If you own an ETF domiciled in Ireland or Luxembourg then this isn’t an issue. Anywhere else and you may pay some witholding tax on dividends and interest, regardless of holding the ETF in a tax shelter. The same is also true of offshore funds should you own a foreign domiciled vehicle.

    https://monevator.com/bonds-and-bond-funds-taxed/
    Bond funds pay interest net whereas bond ETFs do not. Has implications for non-tax payers / higher-rate taxpayers unless in SIPP/ISA.

    There’s a tax advantage for UK domiciled bond index-linked gilt funds over
    ETFs.

    Tax treatment outside tax shelters for reinvesting dividends:
    https://monevator.com/income-tax-on-accumulation-unit/
    The procedure is slightly different if your fund has an equalisation policy.

  • 61 The Accumulator August 21, 2022, 10:23 am

    @ White Sheep – While it is the case that ETFs are index funds in the overwhelming majority of cases, you’re right there are a few active ETFs that can’t be described as index funds. I’ve added a note in that section to clarify. It’s good to mop up these edge cases where they cause confusion, so thank you for pointing that out.

    Like you I’ve migrated more to ETFs over time but Funky Ed Gibbon does make a reasonable case that UK domiciled index funds are the simplest vehicles available to someone who doesn’t want to spend time negotiating the technicalities that can apply on the margins.

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