Retirement mistake no. 5: Being tempted by ETFs

Retirement mistake #5 is being tempted by exchange-traded funds.

I don't understand the fascination with exchange-traded funds (ETFs).

The good news is that ETFs track indexes and most ETFS are low cost. The bad news is that they are being misused by retirees and other investors.

For the most part, ETFs are not less expensive than low-cost index funds offered by the major fund families like Vanguard, Fidelity, and Charles Schwab. However, unlike index funds that can be purchased directly from a fund family, you need a brokerage account to buy ETFs. The commissions you incur will reduce your returns, especially if you buy regularly, over an extended period.

Another cost of ETFs is the "bid-ask spread," which is the difference between the market price for buying an ETF and the cost of selling it. Index funds don't have a bid-ask spread.

Index funds let you reinvest dividends automatically. ETFs pay distributions in cash.

Finally, the availability of all kinds of esoteric ETFS (like ones that invest in cancer research stocks) encourages picking sectors and trading. Both are bad for your returns.

Retirees should avoid ETFs and focus on globally diversified, low-cost index funds instead.

See all ten of the biggest money mistakes a retiree can make.

Dan Solin is the author of the newly published book, The Smartest Retirement Book You'll Ever Read (Perigee Books 2009). His prior books include the New York Times bestsellers, The Smartest Investment Book You'll Ever Read and The Smartest 401(k) Book You'll Ever Read. See Read more about Dan Solin.

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