Index Fund
A mutual fund or ETF designed to track a specific market index, such as the S&P 500. Low fees, broad diversification, and historically better long-term returns than most actively managed funds.
What is an index fund?
An index fund is a mutual fund or ETF that owns the same stocks (or bonds) as a market index in roughly the same weights. Instead of a human manager picking winners, the fund automatically mirrors the index. The result is low cost, predictable behavior, and returns that closely match the overall market.
Key features
- Low expense ratios: major index funds charge fractions of a percent annually, versus 0.5% to 1.5% for actively managed funds. Over decades, the fee difference compounds into a significant chunk of returns
- Broad diversification: buying one fund can give you exposure to hundreds or thousands of companies
- Tax efficient: low turnover means fewer taxable capital gains distributions
- Transparent: the holdings are known because they match a published index
- Passive: no attempt to beat the market, just to match it
Popular index funds
- S&P 500 funds: VOO, IVV, SPY, SWPPX, VFIAX. Track the 500 largest US companies. See S&P 500
- Total US market funds: VTI, ITOT, VTSAX. Track essentially every investable US stock
- International funds: VXUS, IXUS. Track developed and emerging markets outside the US
- Bond funds: BND, AGG. Track the broad US bond market
- Nasdaq-100 funds: QQQ, QQQM. Track the 100 largest non-financial Nasdaq stocks. See NASDAQ
Why they work
Most actively managed funds underperform their benchmark index over long periods, after fees. Index funds guarantee you will match the market (minus a tiny fee), which in the long run tends to beat most active managers.
For long-term investing, a handful of low-cost index funds covering US stocks, international stocks, and bonds is a proven recipe that has outperformed most professional stock pickers.