What is an index fund?
If youre looking for an easy way to begin investing or diversify your existing portfolio, index funds can be a great choice. Well take a closer look below. Index funds explained  Every day, indexes track the movements of markets around the globe. They may focus on a select group, like the Dow Jones Industrial Average, or look at a wider range of stocks like the S&P 500. Rather than focusing on individual shares, an index fund tracks the performance of this entire market index. When you buy shares in an index fund, youre investing in all of its components to maximise value and minimise risk. Fund managers act as an intermediary to make sure the index fund accurately tracks and keeps pace with the index in question. The benefits include exposure to a broad market and lower operating expenses than other types of funds. No matter what the markets doing, the funds simply follow the benchmark index. ETF vs index fund  An ETF, or exchange traded fund, is a collection of stocks that can be bought and sold throughout the day just as a stock would. When looking at an ETF vs index fund, one of the primary differences is that index funds follow their benchmark index, while an ETF fund manager tries to beat the benchmark. Another difference is that you can only buy or sell an index fund at the end of the trading day. Index fund vs mutual fund  A third type of fund to look into is a mutual fund, which is also a collection of stocks. Like index funds, these can only be bought or sold at the conclusion of the trading day. However, there are also a few differences when comparing an index fund vs mutual fund. Like ETFs, they are often actively traded. This means that the fund manager actively chooses which stocks will go into the fund, rather than automatically including the full index. How to invest in index funds  If youre thinking about investing in index funds, there are a few key steps. Step 1: Choose the index. There are hundreds of indexes to choose from, some being region or industry-specific and others being more widespread. If you really want to diversify your investments, look for a global index fund like the FTSE Global All Cap Index composed of company shares from markets around the world. Because a global index fund includes shares from large, small, and entry-level companies in emerging and established markets, it covers all your bases. Step 2: Choose the fund. The next step is to find a fund that tracks your index of choice. For particularly popular or well-known indexes like the London Stock Exchanges FTSE 100, youll have dozens of funds to choose from. Look at the average index fund return along with any associated restrictions and fees. You should also consider your risk tolerance. Step 3: Purchase shares in the index fund. To purchase shares in the index fund, open an account directly with the mutual fund company. Another option is to find a broker specialising in index funds and open a brokerage account. To make the best decision, compare costs, features, and perks. Brokers often charge more, but if you plan to make multiple investments its often easier to open a single brokerage account. Advantages of index funds  There are multiple benefits of index funds:  High average index fund return  Generally, index funds outperform actively managed funds over the long term. Diversification  Investing in funds offers an easy way to diversify your portfolio in comparison to purchasing individual stocks and bonds. Transparency  Most index funds track exactly whats in the index, so you can see where you stand at any time. Low trading costs  With passive management, operating costs are reduced. Theres no need to pay for portfolio managers as the portfolio contents rarely change. Disadvantages of index funds  While the benefits are manifold, index funds arent right for everyone. Here are a few disadvantages to consider at the same time. Rigidity  This is one of the least flexible ways to invest, because the fund never strays from the index in question. Managers hold no sway and cant remove underperforming stocks. Lower returns  Index funds rarely outperform the index in question. While ETFs and mutual funds aim to post higher returns than the benchmark, an index fund merely tracks it. The bottom line  Index funds can be the ideal option for someone who wants a lower risk way to invest in the stock market. With a multitude of indexes to choose from, youre likely to find one that aligns with your investment strategies. Yet its important, as with any investment, to do your research first. We can help  GoCardless helps you automate payment collection, cutting down on the amount of admin your team needs to deal with when chasing invoices. Find out how GoCardless can help you with ad hoc payments or recurring payments.