Plenty of people shy away from investing because of fear.
In fact, a survey from Ally Invest found that 65% of adults say they find investing in the stock market to be scary and/or intimidating. Whether it's the concern you'll make a bad investment and lose money or a lack of access to quality investing advice, at the end of the day that fear is holding you back from really growing your net worth.
The good news is there are many easy ways to invest; you don't have to worry about picking individual stocks, and hiring an expensive advisor isn't always necessary. One of the easiest ways to get started investing is through index funds.
How index funds work
Index funds are investment funds that follow a benchmark index, such as the S&P 500 or the Nasdaq 100.
When you put money in an index fund, that cash is then used to invest in all the companies that make up the particular index, which gives you a more diverse portfolio than if you were buying individual stocks.
Let's use the S&P 500 as an example. The S&P 500 is one of the major indexes that tracks the performance of the 500 largest companies in the U.S. Investing in an S&P 500 fund (one of the most popular) means your investments are tied to the performance of a wide range of companies.
Because the goal of index funds is to mirror the same holdings of whatever index they track, they are naturally diversified and thus hold a lower risk than individual stock holdings. Market indexes tend to have a good track record, too. Though the S&P 500 certainly fluctuates, it has historically generated nearly a 10% average annual return over time for investors. (Just remember that future returns are not guaranteed.)
Index investing is a form of passive investing
Index investors don't need to actively manage the stocks and bonds investment as closely since the fund is just copying a particular index. This is why index funds are known as passive investing — and it's what sets them apart from mutual funds.
Mutual funds are actively managed by fund managers who choose your investments. The goal with mutual funds is to beat the market, while the goal with index funds is simply to match the market's performance. Since index funds don't require daily human management, they have lower management costs (called "expense ratios") than mutual funds. The money saved in fees by investing in an index fund over a mutual fund can save you lots of money in the long term and in turn help you make more money.
A common strategy for many investors who have a long investment timeline is to regularly invest money into an S&P 500 index fund (known as dollar-cost averaging) and watch their money grow over time.
Get started index investing with a brokerage account
Some of the top index funds are those that track the S&P 500 and have low costs. For example, Charles Schwab's S&P 500 Index Fund (SWPPX) is a straightforward option with no investment minimum. Its expense ratio is 0.02%, meaning every $10,000 invested costs $2 annually. Passive, or index funds, generally have a 0.2% expense ratio, so this is notably low.
For an option with no expense ratio, consider the Fidelity ZERO Large Cap Index (FNILX). Though the fund doesn't technically track the S&P 500, the Fidelity U.S. Large Cap Index tracks large capitalization stocks, which the website says, "are considered to be stocks of the largest 500 U.S. companies."
To invest in an index fund, you'll need to open a brokerage account, a traditional IRA or a Roth IRA (you can often choose to invest in index funds through your employer's 401(k) too). Once your account is open and funded, you can choose from a number of different index funds, like an S&P 500 fund, a fund that tracks government bonds or a fund that tracks international stocks.
Also, consider using a robo-advisor like Wealthfront and Betterment (which Select rated highly on our list of the best robo-advisors), which will invest in a handful of index funds and ETFs based on your risk tolerance and investment timeline. Robo-advisors will automatically rebalance your portfolio based on market conditions and have much lower fees than traditional financial advisors.
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Editorial Note: Opinions, analyses, reviews or recommendations expressed in this article are those of the Select editorial staff’s alone, and have not been reviewed, approved or otherwise endorsed by any third party.
FAQs
By allowing you to invest in hundreds or thousands of stocks within a single fund, index funds offer an easy way to diversify your portfolio—and most are affordable, too. An index is a group of stocks, bonds, and other investments that trade on the stock market.
What is the easiest way to invest in index funds? ›
You can buy index funds through brokerages such as Charles Schwab, Fidelity or Vanguard. Financial advisors who hold client accounts at those companies or other brokerages can also buy index funds for you.
What are index funds and how do they work? ›
Index funds are investment funds that follow a benchmark index, such as the S&P 500 or the Nasdaq 100. When you put money in an index fund, that cash is then used to invest in all the companies that make up the particular index, which gives you a more diverse portfolio than if you were buying individual stocks.
Why index funds are the best investment? ›
Lower costs: Index funds typically have lower expense ratios because they are passively managed. Market representation: Index funds aim to mirror the performance of a specific index, offering broad market exposure. This is worthwhile for those looking for a diversified investment that tracks overall market trends.
Are index funds a good way to make money? ›
Long-term asset sustainability: Index funds can help build a portfolio resilient to market fluctuations. That can mean higher returns over time. This approach can also maximize the benefits of compound interest. By investing long-term you gain security, even if you experience short-term losses.
Are index funds good for beginners? ›
Index funds are popular with investors because they promise ownership of a wide variety of stocks, greater diversification and lower risk – usually all at a low cost. That's why many investors, especially beginners, find index funds to be superior investments to individual stocks.
Is it OK to only invest in index funds? ›
Investing legend Warren Buffett has said that the average investor need only invest in a broad stock market index to be properly diversified. However, you can easily customize your fund mix if you want additional exposure to specific markets in your portfolio.
What are the cons of index funds? ›
Moreover, indexes do not provide protection from market corrections and crashes when an investor has a lot of exposure to stock index funds.
- Lack of Downside Protection. ...
- Lack of Reactive Ability. ...
- No Control Over Holdings. ...
- Limited Exposure to Different Strategies. ...
- Dampened Personal Satisfaction.
A three-fund portfolio is made up of three index funds or ETFs. Advisors typically suggest choosing a total U.S. stock market index fund, an international stock fund and broad market bond fund. The amount of money you allocate to each fund depends on your age, goals and risk tolerance.
What is the return rate of index funds? ›
Index funds are recommended to investors with an investment horizon of 7 years or more. It has been observed that these funds experience fluctuations in the short-term but it averages out over a longer term. With an investment window of at least seven years, you can expect to earn returns in the range of 10-12%.
For most ETFs, selling after less than a year is taxed as a short-term capital gain. ETFs held for longer than a year are taxed as long-term gains. If you sell an ETF, and buy the same (or a substantially similar) ETF after less than 30 days, you may be subject to the wash sale rule.
Which index fund pays the most? ›
The Invesco S&P 500 High Dividend Low Volatility ETF has a 4.74% dividend yield, the highest among our recommendations, but its risk is average. Meanwhile, the iShares Core High Dividend ETF has a 4.09% dividend yield but an expense ratio of only 0.08%, much lower than the 0.3% ratio for the Invesco fund.
Do billionaires invest in index funds? ›
The bottom line is that even billionaires recognize the wealth-creation potential of low-cost index funds. Even if you're an active investor in individual stocks -- like Buffett and Dalio are -- rock-solid index funds like these four can help form an excellent backbone for your portfolio.
Which index fund is best for beginners? ›
Best Index Funds to Invest
- UTI Nifty Index Fund: ...
- ICICI Prudential Nifty Next 50 Index Fund: ...
- Mirae Asset Nifty 50 ETF: ...
- HDFC market Fund - Sensex Plan: ...
- Nippon India Index Fund - Sensex Plan: ...
- SBI Nifty Index Fund: ...
- Motilal Oswal Nasdaq 100 ETF: ...
- Kotak Nifty ETF:
How much is needed to invest in an index fund? The minimum needed depends on the fund and your broker's policies. If your broker allows you to buy fractional shares of stock, you may be able to invest in index fund ETFs with as little as $1. If not, your minimum investment will be the cost of one share of the ETF.
How to invest in S&P 500 for beginners? ›
How to invest in an S&P 500 index fund
- Find your S&P 500 index fund. It's actually easy to find an S&P 500 index fund, even if you're just starting to invest. ...
- Go to your investing account or open a new one. ...
- Determine how much you can afford to invest. ...
- Buy the index fund.
