All About Index Funds

Just what are index funds? Simply put, these are mutual funds designed to copy the performance of an index that belongs to a certain financial market. Among the known indices are S&P500, NASDAQ 100, EAFE, and Wilshire 5000. Index funds are perfect for people who want to buy and hold their investments to let them grow. An index fund tries to attain its investment objective mainly by investing in the stocks or bonds of companies belonging to a selected index.

What are the Advantages of Index Funds?

Index funds generally do better than traditional mutual funds for several reasons. The main reason is, index funds have very low cost, commonly dubbed as low expense ratio. Since these are passively managed funds, there's no need to hire expensive managers as well as research analysts. Usually, computers are programmed to manage funds. In fact, index funds offer an immediate cost advantage of 0.5%, 1%, or more than other funds.

Index funds also have easy-to-understand objectives and asset allocations of funds. By merely looking at the target index, a person will easily know the securities a fund will hold. Also, index funds are special types of mutual funds that are tax-advantaged. Index funds can delay capital funds for the reason that the funds hold on to a certain stock for a longer period of time. And by simply replicating a benchmark, index funds require fewer transactions and turnovers and less trading of fund's portfolio resulting to more favorable income tax consequences. The cost of selling or buying stocks, bonds or cash reserves are lower. Hence, the investor reports fewer capital gains due mainly to stock sales.

Another benefit an investor will get from index funds is diversification. Try to study an index and you'll discover that their stocks belong to various categories, which may range from small capitalization to giant stocks.

So what are index funds? These funds are one of the best ways for investors to hold and let go of their investments for the long run. These are portfolios that don't just contain a wide range of stocks but many other investment options. Index funds usually provide diversification for investors looking for ways to come up with a safer and of course, less volatile portfolio. And though these funds do not provide investors with out-performing gains, they do give an investor the assurance that even if he or she sits back and relaxes, the fund can take care itself for a long period of time.