Mutual Funds Give ETFs Run for Money

Like many closed-end funds, General American has another potential advantage over ETFs: leverage. The fund borrows money and uses the proceeds to buy stocks. General American has 14% leverage. Each dollar invested in the fund controls stocks worth about $1.14. The leverage magnifies gains in bull markets -- and enlarges losses in downturns.

Odds are good that stocks will recover from their lows and rise at least a little during the next decade. If that happens, leverage could give the closed-end an edge over the SPDR ETF. To be sure, leverage comes with risk. That's why cautious investors may only want to put a small amount of holdings in closed-end funds.

Compared with closed-end funds, ETFs have some significant attractions. They are cheap to hold and tax efficient. But many open-end index funds have similar virtues. Consider the two biggest funds that track the S&P 500, Vanguard 500 Index (VFINX Quote), a conventional open-end mutual fund, and SPDR S&P 500, the ETF.

By a variety of measures, the traditional fund is clearly superior. During the five years ending in June, Vanguard returned 7.45% annually, compared with 7.36% for SPDR, according to Morningstar. For investors in taxable accounts, the Vanguard edge is even wider. The open-end fund delivered after-tax returns of 7.13%, more than SPDR's 6.98%.

Skilled portfolio management enabled Vanguard to boost returns. Whenever futures sell at bargain prices, the fund holds some of them instead of individual stocks.

To lower tax bills, the Vanguard managers sometimes sell losing shares, booking losses that can offset gains. In future years, Vanguard is likely to be particularly tax efficient. With so many stocks dropping lately, the fund's managers have lots of losses that can be used to offset taxable capital gains.