There has been a lot of talk recently about how it is best for individual investors to invest in Exchange Traded Funds (ETFs) vs. Mutual Funds.  Although some of the rationale is strong, you need to know in what you are actually investing. Let’s start with the basics.

What is an ETF?

Exchange Traded Funds (EFTs) is an investment that pools money from investors and uses those funds to buy a basket of stocks, bonds or other securities. You purchase a share of an ETF just as you would purchase a share of a stock. ETFs typically track a market index or commodity, although actively managed ETFs are becoming more popular. An active fund manager tries to outperform an index by being more selective in the investments it owns. 

What is a Mutual Fund?

A mutual fund is an investment that pools money from investors and uses those funds to buy a basket of stocks, bonds or other securities. You purchase a mutual fund directly from the fund company. The manager of the fund and their analysts try to pick the best investments available rather that a set group of stocks or bonds.

Similarities and Differences

• Pricing: The pricing difference can be significant. Mutual funds are priced once a day after the market closes and the value of the stocks at the end of the day. ETFs are traded while the market is open similar to stocks. The value of the EFT is determined by the bid and ask price, i.e., the price at which someone would pay for a share of that ETF vs. the price at which someone would sell that ETF.  If the market is volatile the difference between the bid and ask price could be significant. 
• Expense Ratio: The internal costs or operating expenses of the fund expressed as a percentage of the funds value is the expense ratio.  This includes portfolio management, trading expenses, marketing, administrative and distribution expenses among others.  Although in the past it was typical for an ETF to have a lower expense ratio than a Mutual Fund, this trend, although still exists, is narrowing.  Mutual Funds are reducing expense ratios to be more competitive and as actively managed ETFs are becoming more popular some ETF expense ratios are increasing.
• Holdings: I believe that what is actually held by a Mutual Fund or ETF can be the most important aspect of the fund.  Unfortunately, this research, although readily available, is not typically performed by purchasers. Here are a couple of examples:
  1. two seemingly identical Standard & Poor’s 500 stock index (a large company index) ETFs have very dissimilar returns. That is because one purchases the same number of shares of each stock in the index, while the other purchase an equal dollar amount of each stock in the index.
  2. I was just looking up a tech company in the Netherlands. It was a large company stock that had been over valued (the value of the stock vs. its price) by Morningstar (a rating company) for the last 4 years.  I then looked at the funds that had the largest holdings in this stock.  The top three funds were a low-priced stock Mutual Fund, a Standard & Poor’s 500 Index, and a mid-cap stock index.  By looking at the titles of these funds this stock, a member of the Standard & Poor’s 500, only should have been in the Standard & Poor’s 500 Index. The stock is not a low-priced stock nor is it a mid-cap stock.

The point of this is that you are responsible to know what you are purchasing and to make sure you are investing in what you are thinking you are.  Look at how much it is costing you to invest in the fund and that when you choose to buy or sell you are getting a fair price. You would not purchase a car without doing your research and looking under the hood, do the same with your investments.

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I have been thinking about the long-term impact of high school and college kids finding work during the summer.  One thing I think we can do as adults to encourage young adults to work is educate them about how a job is a form of investing in themselves and their future. 

Start with talking about saving for retirement.  (I know, what could be less interesting to kids than talking about retirement!)  One important piece of information to highlight is that there is a special account designed for them with many special benefits: we are talking about a Custodial Roth IRA.  Laugh as you may, but there can be some hidden benefits that would entice any kid to start saving.

Let’s talk about the benefits

1. You can save up to the lesser amount of either earned income (i.e. W-2 wages) or $6,000 in 2021.
2. Parents can make contributions to a custodial Roth IRA on behalf of their children as long as the total contribution, both parent and child, remains at the lesser amount of either earned income (i.e. W-2 wages) or $6,000 in 2021.
3. The money goes into the account after taxes are paid, but the child typically has a 0% tax rate. And the interest earned or capital gains on the Custodial or regular Roth IRA are never taxed. 
4. Once the account has been open for 5 years, the principal can be taken out without penalty.  The earnings have to be left in the account or there will be a 10% penalty due. The 5-year rule is based on a calendar year.  If the Roth is open on December 31^st of 2021 on January 1^st, 2026 the 5-year rule has been met.
5. While it is expected that 20% of children’s assets are to be used each year to pay for college expenses each year when applying for financial aid via a FAFSA (Free Application for Student Aid) application, retirement assets are not included for either adults or student.

Ways to discuss the benefits and teach financial concepts

1. Help them to set up a budget to determine how much they can save.  Calculate what their expected earnings are, what are reasonable expenses and do they need additional money during the school year to pay for books or pizza.
2. Take the opportunity to teach them about investing, such as:
   1. the difference between a stock (ownership in a company) and a bond (lending to an entity);
   1. the difference between a mutual fund (a group of stocks and/or bonds) and an ETF, Exchange Traded Fund, (a group of stocks and/or bonds that follow an index);
   1. the risk of declining or increasing in value; and
   1. the average on the S&P 500 (an index of 500 large capitalized firms) average annual market return is still 10% over the last 300 years.
3. Take them to a meeting with your financial advisor and have them explain the markets, and how to select a stock, bond, mutual fund or ETF as their first opportunity to invest.  Alternatively, have them pick a company that they like or use their products, or think is cutting edge and let them buy that company’s stock.
4. Offer to match what they put in as an incentive or gift them the first $100 to get them started.
5. The 5-year rule is important simply because the money that is put into the account may be available to help pay student loans, put a down payment on a first apartment or the down payment on their first home.  Meanwhile the remaining earnings in the account can continue to grow.
6. And best of all, if they leave the money alone, they will have a great start at funding their retirement.  Say they are going to be a senior in high school, if they invest $500 over the next 4 years, a $2,000 investment at an average annual return of 10% they will have $186,000 at their full retirement age of 67.  This also brings up the chance to teach the Rule of 72, take the number 72 and divide it by the expected return on your investment and the answer will tell you how long it takes for your money to double.  An example, if your expected return is 10% take 72/10=7.2, in 7.2 years your money will double in 14.4 years you will have 4x what was originally invested and in 21.6 years you will have 8x the original investment and that is without contributing a penny more.  The joy of compounding!

As adults, we can make it fun for your children and young adults to see the benefits of saving money for future needs, whether it is retirement or a down payment on a home.  It provides future freedom from financial worries and the ability to reach their goals.

Digital currency like Bitcoin has been around since 2009 and has widened our understanding of what currency looks like. Now there’s a new currency making waves: NFTs.

What is an NFT?

We’re all at least somewhat familiar with Bitcoin by now: it’s a digital currency, with balances kept on a public ledger and created through a mathematical encryption algorithm. The “encryption” part is what makes a digital currency also meet the definition of a cryptocurrency. Bitcoin uses huge amounts of computing power to verify transactions using complex mathematical equations. (In fact, the amount of computing power so massive, the annual carbon emissions from the electricity required to mine Bitcoin and process its transactions are equal to the amount emitted by all of New Zealand.)

But now, more than a decade after the launch of Bitcoin and the launch of many similar cryptocurrencies, the financial sector is seeing something new and exciting: the nonfungible token (NFT).

So, how does an NFT compare to Bitcoin?

• Both are verified using blockchain technology, a unique network of computer recorded transactions that provides buyers proof of authentication and ownership.
• Cryptocurrencies like Bitcoin are considered fungible tokens because they are identical to each other and therefore can be used as a form of currency—they are essentially “electronic cash.”
• An NTF can take many forms including videos, .jpg, songs, or any digital asset. NTFs shift the crypto paradigm by making each token unique and irreplaceable.

Why are NFTs so popular?

Most importantly, NFTs provide artists who use digital mediums, who had been previously left out of the art sales market, a way to receive payment for their creations. For example, the artist Mike Winkelmann, also known as Beeple, just sold his NFT creation “Everydays – The First 5000 Days” at Christie’s for $69.3 million, the third highest price achieved by a living artist.

Other popular NTFs include Dapper Labs, who partnered with the NBA and in 2020 released their beta version of their TopShot collectable and tradable NFT app. In October of 2020, Dapper Labs released its full version to its fans and by February 28. 2021 reported over $230 million in gross sales.

One of the exciting elements of NTFs is that they appear to be forming new markets and forms of investment. In the future you may be able to break up parcels of land easily by taking pictures of the various areas within that parcel and sell each area as an NFT, rather than selling the entire parcel.

Are NFTs a good investment?

It is still a budding market having just started in 2017.  With the activity around the world and digital art auctions at Christie’s, it is clear that NTFs have taken the art market by storm.  It has started strong, but remains to be seen over the long haul, if value is retained.  As in all markets, there are always risks of booms and busts, but because of the newness of this market, no one can say for sure where we are now.