Synopsis– In a world where efficiency, flexibility and cost control is the key, ETFs (Exchange-Traded Funds) are gradually proving to be the smarter option over index mutual funds. Although both have a purpose of being used in passive investing because they follow indices, ETFs can in most cases have better benefits in terms of pricing, liquidity, tax efficiency and transparency.
Understanding the Basics
- Index Mutual Fund: A group of investments whose purpose is to imitate the performance of a certain index, such as the Nifty 50, Sensex or S&P 500. Only once per day they are bought/sold at NAV (Net Asset Value).
- Exchange-Traded Fund (ETF): This type of fund also follows an index but it is traded on stock exchanges just like a share during market hours.
Where ETFs Outshine Index Mutual Funds
1. Lower Expense Ratio
ETFs often have lower management fees because of their structure. Index funds are also low cost themselves but due to overheads in the fund houses they tend to be slightly higher.
Below is the comparison of the ETF and Index Mutual Fund invested in Nifty 50 Index.
| Feature | Nippon India ETF Nifty 50 BeES | UTI Nifty 50 Index Fund (Direct Plan – Growth) |
| Type | Exchange Traded Fund (ETF) | Index Mutual Fund |
| AUM (as on 1/08/25) | ₹50,104 Cr | ₹24,115.5 Cr |
| Expense Ratio | 0.04% | 0.19% |
| Current Price/NAV | ₹279 (Current Market Price as on 1/08/25) | ₹172.58 (NAV as on 1/08/25) |
| Minimum Investment | Cost of 1 unit (approx. ₹279) | ₹500 (Min SIP Amount) |
| Trading | Intraday, real-time | Once daily (NAV-based) |
2. Real-Time Trading and Pricing
- ETFs trade just like stocks, whereas index mutual funds are priced only once at the end of the day. Such intraday liquidity will provide flexibility and control- particularly among active retail and institutional investors.
- Use case: An investor who wants to exit a position in a volatile market can do so immediately with an ETF, whereas an investor of an index fund will need to wait until the end of the day to be able to exit the position.
3. No Exit Load
ETFs do not have an exit load unlike many index funds where an exit load is charged (0.25%-1%) in case the fund is redeemed within a certain period (usually a 7-365 day redemption). ETFs are more cost-effective to short term tactical investors or frequent rebalancers.
4. Tax Efficiency
- ETFs and index funds are treated similarly in India in terms of tax treatment, though ETFs may prove to be tax-efficient due to less turnover and their capital gains are not distributed in the fund.
- Index funds can experience internal capital gains as a result of redemptions by other investors.
- The mechanism ETFs use is “in-kind creation/redemption” which assists in reducing taxable distributions.
5. Higher Liquidity and Better Market Access
- In the case of ETFs, one will be able to:
- Enter stop-losses, and place limit orders.
- Permitted Trade margin or intra day (intra day where allowed)
- Price discovery in real time
- Although liquidity is reliant on the trading volume and market makers, the ETFs tend to contain more instruments that you can use to time your entry and exit than index funds, which are passively priced to the NAV.
Also read: Top Gold ETFs That Delivered Massive 1-Year Returns; Do You Own Any?
6. Better Transparency
ETFs report their portfolios on a daily basis as compared to index funds which report once a month. This is more transparent thus enabling active investors to have better knowledge of portfolio composition and alignment to the underlying index.
7. Smaller Minimum Investment
Although SIPs are possible in mutual funds, many index mutual funds may have minimum SIP investments starting from ₹500 or ₹1000. On the brighter side, ETFs are listed at an exchange level, one can purchase at a cost of one unit price(as low as ₹20 to ₹150). This means better affordability to small-ticket investors or those who invest using broker-integrated apps such as Zerodha, Groww, or Upstox.
ETF vs Index Mutual Fund
| Feature | ETF | Index Mutual Fund |
| Trading | Intra-day, real-time | Only once daily (NAV-based) |
| Expense Ratio | Lower (0.05%–0.20%) | Slightly higher (0.20%–0.60%) |
| Exit Load | None | Yes (0.25%–1% in most cases) |
| Liquidity | High (market-based) | Low (NAV-based redemption) |
| Transparency | Daily portfolio disclosure | Monthly or fortnightly |
| Tax Efficiency | Slightly better due to structure | May trigger internal capital gains |
| Minimum Investment | Cost of 1 unit (₹20–₹150) | Typically ₹500–₹1,000 SIP |
| SIP Option | Not directly, but available via apps | Yes, directly through AMC |
| Requires Demat Account | Yes | No |
Limitations of ETFs
- Demat account is required: This might feel like an unnecessary step for first time investors but having a demat account is basic.
- Brokerage fees: ETFs are subject to a brokerage fee on every ETF sell/purchase (but little in the case of discount brokers).
- Lower volumes in some ETFs: There is an increased bid-ask spread in thinly traded ETFs.
Final Thoughts
Assuming that you are a person who prefers flexibility, low expenses, greater transparency and prefer to have greater control of the trades then ETFs simply wins out over index mutual funds as an investment vehicle. Due to the availability of modern apps that aid in UPI-based payments and ease of use, everyone can now invest in ETFs so easily. What was once most popular among the big institutions has now become an interesting and efficient alternative among the retail investors.
Written by Prajwal Hegde
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