Index Funds: What They Are And How They Perform

Posted February 15, 2009 by Bernz

Index funds are a type of mutual fund that combines a number of different stocks into a single stock market investment vehicle.  Instead of buying the individual stocks, you can buy shares of the fund.  That way you own a portion of many stocks instead of owning many shares of just one stock.

This type of ownership appeals to many investors who prefer to spread their risk over a number of stocks, but may not have the investment money that it  takes to buy a lot of stocks across a wide section of the market.

Of course, some people are critical of mutual funds since they typically yield less than individual stock portfolios.  This is largely due to the fees charged by most mutual funds.

Mutual Fund profits are decreased by the management fees.  Since the stocks in the funds are personally selected by the managers, the managers are well paid for their research and expertise.  But you can minimize those management fees by investing in index funds.

Why do index funds cost less to manage than other kinds of mutual funds?  Because they follow an investment “recipe”, and do not require the ongoing tracking and attention that other funds need.  For instance, an index fund may be based on the Standard and Poor 500 or the Dow Jones Industrial Average.

That means that the stocks in the fund are the same stocks in the Standard and Poor 500, or the Dow Jones Industrial Average, and they don’t change very frequently. In fact, Standard and Poor and Dow Jones have done the research and are doing the ongoing performance tracking for the fund.  So very little additional  outside management is necessary.

You don’t have to pay for additional expertise and research  involved in their selection.  And since the stocks in the base index don’t change very often, the stocks in the index fund don’t  change often, either.  So the trading fees are lower overall for index funds than for other types of mutual funds.

So if you are the kind of investor who finds mutual funds attractive because of their low-cost ability to automatically diversify  your portfolio, you may want to consider index funds. They are also a good choice if you want to add some stability to  your investment portfolio, since the underlying stocks in the major economic indexes tend to be long-term performers with a proven history.  They typically span several economic sectors, which gives them built-in diversity during times of financial uncertainty.

Popularity: 28% [?]

Technorati Tags: , , , , , , ,

If you enjoyed this post, make sure you subscribe to my RSS feed!

Tags: , , , , , , ,

This entry was posted on Sunday, February 15, 2009 at 7:24 am and is filed under Financial Education, Investing Strategies, Mutual Funds, Stock Market Investing. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.

Leave a Reply

(required)

(will not be published) (required)


« Back to text comment