Index funds have grown to be one of the most chosen assets due to their passiveness, great returns, and low management costs. These investments have received great acclaim from many notable investors such as Warren Buffet. In this article, let’s further discover why index funds may be a good option for you.
What is an index fund?
An index fund is a class of mutual or exchange-traded fund, that offers the ability to invest in indices. The portfolio of index funds is made to match indices such as the Nasdaq or S&P 500. Index funds are very popular for the reason that they provide great diversification and don’t require much management. Index funds stick to the index that they are following, and so do not deviate when the index is going down or up. As a result, index funds offer lower expenses than do actively managed funds as index funds do not change their holdings unless the index does.
Index funds are most commonly used by passive investors in retirement accounts such as 401(k) and IRAs. This type of investment is what would match the state of the market as investors compare their returns to that of certain indexes such as the S&P 500.
What index funds should I invest in?
Depending on the index you want to invest in, there are a variety of index funds offered for each. Here are a few popular indices that each have index funds:
- S&P 500
- Russell 2000
- Nasdaq Composite
- Dow Jones Industrial Average
Each of these indexes tracks a different amount and type of companies, such as the Russell 2000 comprising of 2000 of the smallest companies and the S&P 500 bearing the 500
largest companies. See which index is your type of trading style and what you are most comfortable with, and search for index funds according to that index.
The main difference between these index funds is the way they match the index, in terms of the same companies that the index covers. For this reason, index funds charge varying fees for the level of matching you want in the fund. Generally, a simple way to tell if an index fund is closely matched with its respective index is by seeing its returns in comparison to the index itself.
When should I consider investing in index funds?
Index funds are most ideal for those looking to make returns comparable to the market for the long haul. Index funds show their true potential through many months and years, as an index is rare to increase dramatically over the course of days or weeks. Further, if you’re someone who wants to be invested in the stock market but doesn’t want to spend the time and energy researching individual companies and sectors, then you should consider index funds. This type of investment is great for when you think that your individual investing is going to be less than the market’s outcome.
With more and more people choosing to invest in index funds for their passive and low-cost nature, this investment choice deserves to be considered for your portfolio. When investing in index funds, always consider the cost and the level of tracking relevant to that fee. Generally, the more identical the tracking, the more the cost. However, with tons of index funds available, you will be most likely to get a good fund that matches the index of your choice within the fee acceptable to you. Most importantly, remember that index funds are made to simply track an index and not necessarily be actively managed to generate profit.