Index fund investing

Investing in an index fund is a smart investment. This blog post ‘Index fund investing’ provides information on index funds and how they work.

Astute readers may have already read about index funds, yet index funds are relatively little discussed. On the contrary, information about actively managed funds is abundant.

What is an index fund?

Index fund investing is a smart investment. Index funds have a low expense ratio. By investing in an index fund, an investor automatically achieves diversification. In the long run, index funds have the potential to outperform many other types of funds.

An index fund is a type of mutual fund or exchange-traded fund (ETF) that is passively managed and invests in a small number of stocks that closely mimic an index. Passive management is the opposite investment style of active management. Passive management is also called “passive strategy,” “passive investment,” or “index investing.”

How do index fund works?

In the Indian market, we can see many index funds that are investing along the lines of the Sensex or Nifty index. Apart from this, there are still many index funds that invest by mimicking many indices (such as the Nifty Next 50, the Nifty 100, the Nifty Bank, etc.).

In an index fund, the fund manager does not need to actively select shares. It only invests that amount of money in the stocks in the index; hence the name “passively managed funds.” That is why the expense ratio of index funds is much lower compared to actively managed funds.

A Sensex-based index fund invests in 30 stocks, whereas a Nifty-based index fund invests in 50 companies. Now, as this index, i.e., the Sensex or Nifty, performs, the index fund you have selected will perform as well.

Why should you invest in index fund?

Skilled investors invest in many actively managed funds based on different strategies and themes and also invest in actual stocks. Most likely, the stocks chosen by someone are of different groups (large cap, mid cap, small cap, etc.) and are giving returns as per your business. Index funds, on the other hand, invest in certain stocks and stick to them. All the stocks in the index are from high-quality companies and (barring exceptional circumstances) usually do not perform too badly.

One of the major advantages of index funds that I like is that it does not take much time to manage such investments properly, as investors do not need to spend much time selecting and analyzing different stocks, yet their investments are automatically made in quality stocks and perform according to market performance. It gives an average return according to the market return, but due to the low expense ratio, this return can prove attractive for long-term investing.

Who should invest in index funds?

Index funds can be useful for those investors who want to invest in the stock market but are not ready to pay regular attention to the market’s movements. Even if an investor does not have time to monitor the stock market, he continues to invest in good stocks.

To get more benefit from investing in index funds, one can do so through a systematic investment plan at different prices or by buying bulk units in a bear market.

What to Know Before Investing in Index Funds?

Index funds provide returns according to the returns of a particular index of the stock market, so no one should expect super returns from index funds over the returns of the stock market.
For some time, if the index is range-bound, then all the investments will be in that range. In such instances, no one should expect a high return during that period.
Investing in index funds is a prudent investment.

You may like to read: Types of mutual funds