How is an ETF different from a mutual fund?

While both ETFs and mutual funds pool investor money into diversified portfolios and are both regulated by the 1940 Act, they work quite differently. Think of an ETF as a special type of mutual fund.

ETFs trade on exchanges throughout the day at prices determined by intraday supply and demand, while mutual funds transact once daily for all buyers and sellers at a single price called the net asset value, or NAV. The NAV is calculated by the fund accountant after market close by valuing all the underlying securities in the fund.

One of the biggest differences is tax efficiency. ETFs use an in-kind creation and redemption process to handle flows, which typically avoids triggering capital gains distributions to ETF shareholders. Open-ended mutual funds, on the other hand, typically manage flows using cash and on-market trading, which often distributes taxable gains to shareholders each year—even if the shareholder didn't sell a single share. This structural advantage makes ETFs particularly attractive for long-term taxable investors.