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The Mutual Fund, ETF Battle: Part One

T. Rowe Price's retail marketing head maintains that ETFs won't supplant open-end funds.

Let's get ready to rumble ... over mutual funds!

Right now the battle between traditional open-end mutual funds and exchange-traded funds is very much a David vs. Goliath match-up. Stock and bond mutual funds held roughly $9.2 trillion dollars as of January, according to the Investment Company Institute. Over in the challenger's corner, ETF assets weighed in at just $315 billion.

Despite the vast weight differential, ETFs, which are index funds that trade like stocks, have momentum on their side.

The combined assets of ETFs grew 41% year-over-year in January, compared with a 15% jump for mutual funds. Of course, mutual funds are coming off an $8 trillion base, so rapid growth isn't as easy. But the number of mutual funds, including money market funds, fell 1% from 8,046 in January 2005 to 7,989 a year later, according to the ICI. Meanwhile, the number of ETFs grew 35% over the same period, to 205 from 152, and it seems like barely a week goes by without a new one hitting the market.

asked Alex Savich, the head of mutual fund giant

T. Rowe Price's

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retail marketing group, to size up the two gladiators, handicapping the pros and cons of each investing vehicle. T. Rowe Price offers 80-plus funds holding more than $170 billion in assets, but it has not yet launched an ETF.

In tomorrow's ETF Tuesday column, we'll hear from a money manager who designs ETF-only portfolios to get his take on the investing products battling for your money. What are the biggest benefits of owning traditional open-end mutual funds vs. owning ETFs?

Alex Savich

: Open-end funds come with a high level of client-service and portfolio-management tools. These decision-support tools and services are particularly appealing to individual investors. Open-end funds also can offer active stock selection by a professional fund manager. Both ETFs and open-end funds offer investors greater diversification vs. holding individual securities.

Are there any circumstances under which you believe an ETF would be a better option for an investor than a traditional mutual fund?

This will vary for each investor based on his specific situation. Each investor needs to add the cost of the brokerage commissions to buy and sell the ETF, plus the management expenses in order to compare costs vs. a similar open-end index fund. The investment holding period and the investment amount will have a major impact on the outcome of this cost analysis.

ETFs have been gaining a lot of momentum and notoriety recently. Some people are going as far as saying that ETFs will eventually supplant traditional open-end mutual funds. Is this a possibility?

ETFs and open-end funds each offer distinct advantages that meet specific investor needs. And investors are not just comparing ETFs to open-end funds. Many investors could be using sector ETFs to replace individual stocks in their brokerage account. There is a good chance that investors will continue to use a combination of ETFs, open-end funds and individual stock investments to build their investment portfolios.

A lot of this debate probably goes back to the old battle between index investing and actively managed investing, doesn't it?

Yes, but ETF growth is also impacted by the increased availability of low-commission-cost online brokerage accounts. And the last bear market showed many investors how risky it could be to own individual stocks.

If actively managed ETFs ever make their way through the SEC and onto the market, how will this affect the battle between funds and ETFs? How will this affect the entire fund mutual fund world?

We don't see this as a battle between ETFs and open-end funds. Each structure can play a legitimate role in a portfolio. The important thing is helping investors find the best product for their particular investment goal.

Barclays Global Investors has amassed a huge lead on the ETF front. Does T. Rowe Price have any plans in terms of ETFs?

We are tracking developments in the industry, but we have no current plans to launch an index ETF. We are, though, focusing on ways to improve the ETF information and education available to our customers through their T. Rowe Price discount brokerage accounts.