Best for: First-time investors who want to start with confidence, not confusion.
Index funds are simple. They’re baskets of stocks that track a market index like the S&P 500 or the total U.S. stock market. You buy the fund, you own a piece of everything in it.
But index funds come in two flavors: ETFs and mutual funds. They hold the same investments. They track the same indexes. But they work differently in ways that actually matter.
What’s an ETF?
ETF stands for Exchange-Traded Fund. You buy and sell them on the stock market just like individual stocks. The price changes throughout the day. You can buy one share or a hundred shares. You can trade them whenever the market is open.
VTI is an ETF. So is VOO. If you’ve heard of these, you’ve heard of ETFs.
What’s a Mutual Fund?
Mutual funds don’t trade on the stock market. You buy them directly from the fund company (like Vanguard or Fidelity). The price is set once per day after the market closes. You buy in dollar amounts, not shares. If you want to invest $500, you get $500 worth of the fund, even if that’s 3.47 shares.
VTSAX is a mutual fund. So is FXAIX. Same idea as ETFs, just a different structure.
ETFs vs. Mutual Funds: What Actually Matters
Trading: ETFs trade like stocks. You can buy or sell anytime the market is open. Mutual funds only process trades once per day after the close.
For long-term investors, this doesn’t matter. You’re not day trading your retirement account.
Minimum investment: Many mutual funds have minimums, often $3,000. ETFs have no minimum beyond the price of one share, which might be $50 or $200 depending on the fund.
If you’re just starting out, ETFs are easier to access.
Automatic investing: Most brokerages let you set up automatic investments in mutual funds. Buy $500 every month, done. ETFs require you to manually buy whole shares, which makes automation harder.
If you want to set it and forget it, mutual funds work better.
Tax efficiency: ETFs have a slight edge here due to how they’re structured. But if you’re holding everything in a 401(k) or IRA, this doesn’t matter because those accounts are already tax-advantaged.
In taxable accounts, ETFs are marginally better. But we’re talking small differences, not game-changers.
VTI vs. VTSAX: Same Fund, Different Wrapper
VTI and VTSAX both track the total U.S. stock market. They hold the same stocks in the same proportions. One is an ETF (VTI), the other is a mutual fund (VTSAX).
If you hold them in a 401(k) or IRA, it makes almost no difference which one you pick. Choose based on convenience.
If you’re in a taxable account, VTI has a slight tax advantage. But again, slight.
How to Choose Low-Cost Passive Funds
Ignore past performance. Ignore star ratings. Ignore anything that promises to beat the market.
Look at two things: expense ratio and what the fund tracks.
Expense ratio is the annual fee the fund charges. It’s a percentage of your investment. If you have $10,000 in a fund with a 0.03% expense ratio, you’re paying $3 per year. If the expense ratio is 0.50%, you’re paying $50 per year.
That difference compounds over decades. A 0.03% fund will leave you with significantly more money after 30 years than a 0.50% fund, even if they hold the exact same stocks.
What it tracks matters because you want broad market exposure, not some narrow slice a fund manager picked.
Good index funds track things like:
- Total U.S. stock market (VTI, VTSAX, FSKAX)
- S&P 500 (VOO, VFIAX, FXAIX)
- Total international stock market (VXUS, VTIAX, FTIHX)
- Total U.S. bond market (BND, VBTLX, FXNAX)
- Total International bond market (BNDX, VTABX, FBIIX)
Bad funds have names like “Growth Opportunities Fund” or “Strategic Dividend Fund.” Those aren’t index funds. They’re actively managed, which means higher fees and no guarantee of better returns.
The Funds Most People Should Own
If you want simple, here’s simple:
U.S. stocks: VTI (ETF) or VTSAX (mutual fund) International stocks: VXUS (ETF) or VTIAX (mutual fund) Bonds: BND (ETF) or VBTLX (mutual fund)
That’s it. Three funds cover the entire global stock and bond market.
Or even simpler:
Everything: VT (ETF) or VTWAX (mutual fund)
VT and VTWAX hold the entire world stock market in one fund. U.S. and international, weighted by market cap. You own over 9,000 stocks with one purchase.
Add an all world bond fund (BNDW) when you need bonds. Otherwise, that’s your whole portfolio.
Fidelity and Schwab Work Too
Vanguard isn’t the only option. Fidelity and Schwab have equivalent funds with similarly low expense ratios.
Fidelity:
- FSKAX (U.S. stocks, equivalent to VTSAX)
- FTIHX (international stocks, equivalent to VTIAX)
- FXNAX (U.S. bonds, equivalent to VBTLX)
Schwab:
- SWTSX (U.S. stocks)
- SWISX (international stocks)
- SWAGX (U.S. bonds)
Pick whichever brokerage you’re already using. The differences between these funds are negligible.
Active Funds Are Not Worth It
Actively managed funds have managers picking stocks trying to beat the market. They charge higher fees for this service, usually 0.50% to 1.50% per year.
The problem is most of them don’t beat the market. Over 10 years, about 85% of active fund managers underperform their benchmark index after fees.
You’re paying more to get worse results. That’s a bad deal.
Stick with passive index funds. Lower fees, broader diversification, and you’re not betting on some manager’s ability to outsmart millions of other investors.
The Bottom Line
ETFs and mutual funds are the same investments in different packages. Pick based on convenience and what your brokerage offers.
Focus on low expense ratios. Anything under 0.20% is fine. Under 0.10% is better. Under 0.05% is excellent.
Own broad market index funds, not actively managed funds trying to beat the market.
And if you want maximum simplicity, VT (or VTWAX) plus a bond fund is a perfectly good portfolio. You don’t need anything fancier than that.