Building and managing retirement nest eggs is a difficult task that requires utmost dedication and sincere efforts. Most Americans are set to retire with low retirement balances that will not even cover the first decade of their retirement.
While most people until recently used to choose mutual funds as the primary asset class for parking their retirement funds, this has changed over the last decade with the rise of exchange-traded funds and the passive investing revolution.
In this article, we will explain the basics of exchange-traded funds or ETFs as they are popularly known, how they differ from traditional mutual funds, and will also share a list of Best ETFs for retirement.
The Basics – Exchange Traded Funds (ETFs)
What is an ETF?
ETFs, or exchange-traded funds as the name suggests, are specific types of pooled investment funds that are quite similar to mutual funds. ETFs are designed to track indexes, stocks, sectors, commodities, or asset classes. Unlike mutual funds, ETFs can be traded on exchanges, much like stocks, and this is the primary differentiator between mutual funds and ETFs.
ETFs are much more liquid than mutual funds, and due to the ease of buying and selling, they have emerged as one of the most preferred types of securities since the financial crisis of 2008-2009. ETFs, particularly index funds that track a specific index, allow one to invest in a pre-selected basket of stocks without paying the higher fees charged by mutual funds.
ETFs have spelled the death knell for actively managed financial instruments as nowadays, even retired investors understand that actively managed funds often underperform the index they claim to track. Due to the passive nature of ETFs, managers are able to save significant sums that would, until recently, go towards the broker charges and fees associated with high churn funds.
How is an ETF different from a Mutual Fund?
ETFs differ from mutual funds significantly in terms of their fees, tax efficiency, ease of sale/redemption etc. While mutual funds can be redeemed only at the end of the trading day, ETFs can be sold directly on exchanges like stocks.
Unlike mutual funds, ETFs don’t charge administrative or marketing fees, which makes them much cheaper to own. While fees of mutual funds can be as high as 1% or more on an annualized basis, ETFs charge quite low fees that can be even lower than 0.1% on an annualized basis.
There are also no commissions involved in buying ETFs, whereas most mutual funds charge a commission fee from new investors. Lower fees charged by ETS make them a worthy alternative to mutual funds,
Unlike mutual funds that primarily invest in stocks, bonds, and other securities, ETFs invest and track a wide variety of assets such as oil, gold, silver, commodities, emerging markets, etc.
ETFs are also considered to be more tax efficient than both mutual funds and stocks, as ETF share exchanges are considered in-kind distributions by the IRS.
Why are ETFs a great investment?
Lower costs, better tax treatment, the ability to buy and sell on exchanges, and their extremely liquid nature makes ETFs a great investment tool for all types of investors. ETFs also allow you to take exposure to a wide range of sectors, asset classes, and commodities without investing a fortune.
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How ETFs In Your 401k or IRA Help Your Retirement Portfolio
While tax-efficiency offered by ETFs may not be needed in a tax-efficient structure such as 401K or IRA, ETFs still have a place in your retirement account due to their passive nature, easy of selling, and, most importantly, the low expense ratios that can make the real difference in a long-term product such as 401K or IRA.
Active mutual funds were the main choice for 401Ks and IRAs until recently when they were trumped by low fee ETFs and passive mutual funds that also offer ultra-low fees like ETFs. Hidden 401k fees are the biggest obstacle to achieving a high retirement corpus as even a minuscule difference of 0.5% in annual fee can lead to a difference of hundreds of thousands of dollars in your retirement corpus due to the compounding effect.
Having ETFs in your 401k or IRA will help you boost your final retirement corpus by cutting on the fee that eat up a good chunk of your investment returns.
The Best ETFs for Retirement
Here are some of the ETFs for retirement that have been selected and curated carefully by our team. We have tried to include some of the best dividend ETFs, emerging market ETFs, growth ETFs, and index tracking ETFs to make your job of selecting the right ETFs for your retirement account simpler.
The best Dividend ETFs for Retirement
Schwab U.S. Dividend Equity ETF (SCHD)
Schwab U.S. Dividend Equity ETF is a low-cost dividend ETF from Charles Schwab that tracks Dow Jones. U.S. Dividend 100 index as closely as possible. Dow Jones U.S Dividend 100 index in turn consists of the high dividend yield stocks in the US with a clear track record of consistently paying dividends.
SCHD has a very low expense ratio of 0.06% and is one of the best dividend ETFs out there for investors willing to invest in high-quality dividend-paying US stocks.
Expense Ratio: 0.06%
Annual Dividend Yield: 3.78%
1 Year Return: -0.41%
3 Year Return: 16.58%
5 Year Return: 12.08%
Vanguard High Dividend Yield ETF (VYM)
Vanguard is renowned for its low-cost mutual funds, and the company has managed to replicate its success in the ETF world also with some of the best ETFs in the market. Vanguard High Dividend Yield ETF is a good choice for people looking for high dividend yield ETFs. Vanguard High Dividend Yield ETF primarily invests in large-cap US stocks and follows the value investing methodology in selecting stocks.
VYM has 98.63% of its funds invested in US-based large-caps, with just 1.17% being allocated to non-US stocks. VYM is an ideal choice for retirement investors who value safety of their capital and want to avoid volatility that often accompanies mid cap and small cap stocks.
Expense Ratio: 0.06%
Annual Dividend Yield: 3.20%
1 Year Return: -2.58%
3 Year Return: 14.62%
5 Year Return: 8.71%
Vanguard Dividend Appreciation ETF (VIG)
Vanguard Dividend Appreciation ETF is another ETF from Vanguard focused on dividend-paying stocks. Unlike VYM, it focuses on US stocks that have a clear track record of increasing dividends over time. VIG tracks the NASDAQ US Dividend Achievers™ Select Index, which is composed of large-cap dividend stocks with a track record of annually increasing dividends for the last 10 years. VIG’s strategy is quite similar to the dividend growth method of investing that is followed by fund managers and individual investors alike.
Expense Ratio: 0.06%
Annual Dividend Yield: 1.95%
1 Year Return: 4.46%
3 Year Return: 13.62%
5 Year Return: 11.60%
SPDR Portfolio S&P 500 High Dividend ETF (SPYD)
SPDR Portfolio S&P 500 High Dividend ETF is another dividend-focused ETF on our list. It should be a part of retirement accounts due to its focus on investing in large-cap stocks with a high dividend yield. Unlike other ETFs on this list, SPYD solely focuses on high-dividend stocks and predominantly invests in up to 80 large-cap US stocks.
Expense Ratio: 0.07%
Annual Dividend Yield: 4.74%
1 Year Return: -6.48%
3 Year Return: 16.39%
5 Year Return: 5.99%
The Best Index Tracking ETFs for Retirement
SPDR S&P 500 ETF (SPY)
SPDR S&P 500 ETF is among the oldest ETFs in existence, as it was launched way back in 1993 when passive investing or index-based investing were rarely used terms. SPY is the largest ETF in the world, with assets under management of $380 billion. It tracks S&P 500 index and has a quite low fees. It’s an ideal product for retirement investment as it allows you to capture the future growth of the S&P 500 with an expense ratio of just 0.09%.
Expense Ratio: 0.09%
Annual Dividend Yield: 1.57%
1 Year Return: 2.56%
3 Year Return: 14.38%
5 Year Return: 11.30%
iShares Core S&P 500 ETF (IVV)
iShares Core S&P 500 ETF is another ETF on our list that tracks S&P 500 index. IVV also tracks S&P 500 index and has assets under management of $306 billion. It’s an ideal vehicle for someone who wants to take exposure to a broad market index without paying hefty fees. IVV also stands out from competition due to it’s abysmally low expense ratio of just 0.03%.
Expense Ratio: 0.03%
Annual Dividend Yield: 1.58%
1 Year Return: 2.63%
3 Year Return: 14.48%
5 Year Return: 11.41%
The iShares Russell 2000 ETF (IWM)
The iShares Russell 2000 ETF is an ETF that tracks the Russell 2000 index of US mid-cap and small-cap companies and allows one to benefit from the higher returns offered by mid cap stocks and small-cap stocks. It’s an open secret that mid-cap and small-cap companies offer a higher rate of return as compared to large-cap stocks. Although, this higher growth comes at the price of higher risk and higher volatility that is inherent in such stocks.
IWM offers a low-cost structure and allows one to take part in the growth journey of mid and small businesses in the US.
Expense Ratio: 0.19%
Annual Dividend Yield: 1.63%
1 Year Return: -3.67%
3 Year Return: 11.79%
5 Year Return: 4.07%
The Best Growth ETFs
Vanguard Total Stock Market ETF (VTI)
Vanguard Total Stock Market ETF is another ETF from Vanguard on our list. VTI is a broad market ETF that allows you to take exposure to the broad market. VTI holds stakes in more than 3500 companies from all sectors and industries, and its holdings include large caps, mid caps, and small caps.
VTI has assets under management of more than $286 billion and is an ideal tool for someone who wants to take exposure to the broad US stock market.
Expense Ratio: 0.03%
Annual Dividend Yield: 1.55%
1 Year Return: 1.33%
3 Year Return: 13.94%
5 Year Return: 10.51%
Vanguard Growth ETF (VUG)
Vanguard Growth Fund is another ETF from Vanguard on our list that tracks the CRSP US Large Cap Growth Index. VUG has an expense ratio of just 0.04% and holds approximately 240 stocks. VUG is a large-cap growth stock ETF and is indexed to the CRSP US Large Cap Growth Index, which is primarily a large-cap index that screens stocks using the market cap as the main criterion. While market cap is used for identifying large-cap stocks, CRSP US Large Cap Growth Index also considers other criteria such as future long-term growth in earnings per share (EPS), future short-term growth in EPS, 3-year historical growth in EPS, 3-year historical growth in sales per share, current investment-to-assets ratio, and return on assets for screening its constituents.
Expense Ratio: 0.04%
Annual Dividend Yield: 0.65%
1 Year Return: 1.29%
3 Year Return: 12.48%
5 Year Return: 13.07%
Vanguard Small Cap Growth ETF (VBK)
It’s a well-known fact that small caps offer a higher growth rate and are also riskier than mid-cap and large caps. If you can stomach the risk and volatility associated with small caps, then Vanguard Small Cap Growth ETF is the right choice for your retirement investing. As retirement investing is focused on the long term, adding a small-cap stock ETF can provide your retirement corpus a significant boost. While most ETFs, particularly the ones focused on small caps, tend to have high fees, VBK has lower expenses of just 0.07%.
Expense Ratio: 0.07%
Annual Dividend Yield: 0.61%
1 Year Return: -2.54%
3 Year Return: 7.38%
5 Year Return: 5.98%
iShares MSCI EAFE ETF (EFA)
It’s also a good idea to diversify your retirement portfolio geographically by investing across different countries and regions. While most ETFs discussed above are focused on US Stocks, iShares MSCI EAFE ETC or EFA invests in common stocks of a wide range of companies from Europe, Australasia, and the Far East. It gives you access to a diverse range of around 800 companies from these geographies and can also be a good choice as a dividend ETF due to its high dividend yield of around 2.36%.
Some of the most recognizable brands, such as Nestle, Shell, Novo Nordisk, Novartis, HSBC, etc., are among its top holdings. EFA is a great choice for you if you want to diversify your portfolio by adding a flavor of international stocks.
Expense Ratio: 0.33%
Annual Dividend Yield: 2.4%
1 Year Return: 9.67%
3 Year Return: 11.85%
5 Year Return: 3.67%
The Best Emerging Market ETFs for Retirement
The iShares MSCI Emerging Markets ETF (EEM)
The iShares MSCI Emerging Markets ETF (EEM) invests predominantly in large and mid cap stocks of emerging economies and allows one to take exposure to the higher growth rates offered by the emerging markets. EEM allows you to invest in more than 1200 stocks from 24 emerging economies and is heavily focused on Asia, where most emerging market nations including China, India, Vietnam, Indonesia etc. are situated.
EEM has around 78% of its corpus invested in companies from Asia, while around 8.59% of it’s corpus is invested in companies from Latin America, with another 7.29% invested in Middle Eastern companies and the rest spread across Africa and other emerging markets. It also offers a good way for income generation due to it’s high distribution yield of 2.41%.
Expense Ratio: 0.69%
Annual Dividend Yield: 2.41%
1 Year Return: -5.61%
3 Year Return: 3.91%
5 Year Return: -1.60%
Franklin FTSE India ETF (FLIN)
Franklin FTSE India ETF is a passively managed index fund solely focused on investing in Indian companies and allows you to take exposure to the Indian economy, which has maintained its pace as the fastest-growing large economy over the last decade. Unlike developed markets, Indian stocks offer superior returns due to the fast-growing economy and the exponential growth in consumption sparked by the burgeoning middle class in this Asian nation.
Expense Ratio: 0.19%
Annual Dividend Yield: 0.73%
1 Year Return: -7.15%
3 Year Return: 16.94%
5 Year Return: 5.10%
VanEck Vietnam ETF (VNM)
VanEck Vietnam ETF is among the rare breed of emerging market funds that are not focused on tracking China, India, or other large emerging markets. Vietnam is fast becoming a global hub of manufacturing, and VNM allows one to profit from this manufacturing-driven growth that is happening right now in Vietnam.
Expense Ratio: 0.66%
Annual Dividend Yield: 1.55%
1 Year Return: -28.70%
3 Year Return: 0.06%
5 Year Return: -6.97%