How to Invest in Index Funds

May 24, 2017

When most people think of investing, they imagine buying shares of Nike or Coca-Cola. They hear about the IPOs of new companies like Snapchat and wonder if they should invest.

But seasoned investors choose to rely on index funds for their retirement needs. Index funds track an index, which is a section of the stock market. Some choose the biggest companies in the country, while others go with international stocks.

Index funds are popular because they track a huge list of companies, often hundreds or more. Instead of putting all your eggs in one basket, investing in an index fund prepares you for the ups and downs of the market. Here’s how to get started.

Why choose index funds?

Index funds are one of the most popular forms of investment vehicles because they’re adequately diversified. Jack Bogle, legendary investor and founder of Vanguard, believes that index funds are the key to a successful retirement. He’s made his living by producing stable funds with low fees that investors can rely on.

Index funds are passively managed, meaning that there’s no hedge fund trying to determine which companies will make you the most amount of money. According to investing site The Motley Fool, index funds beat out 80% of all actively-managed funds.

Look for low fees

Investing in the right fund can net you hundreds of thousands of dollars, but only if you choose the right ones. Not only should you look at what the fund has earned since its inception, but you should also check out how much it charges.

Each fund has its own fees and expense ratio, which is how much it charges out of how much you buy. Fees depend on the firm, the type of fund and how much you buy. Most of these are around 1% or less, which seems like a small price to pay for investing in your future.

But minimizing fees is a crucial aspect of investing. When a fund returns between 6-8% a year, paying 1% in fees means you’re cutting into your profits.

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Research Carefully

When looking for index funds, it’s important to keep an eye out for the following:

 

  • How it performed in the past. A crucial aspect of investing is knowing that past performance never guarantees future results. A fund that returned 10% last year is not guaranteed to do that again. However, those figures are a good benchmark. Look at how the fund performed in the last five and 10 years and since its inception. Compare those numbers to how well similar funds did; that’ll give you a sense of how well it normally does.
  • How much it charges in fees: As stated below, fees can cripple your investing. Stick to fees that are 1% or less. Anything more and you’re just throwing money away.
  • What part of the market it captures: Each index fund focuses on a certain aspect of the market, from small-cap funds to large-cap international funds. It’s vital to have a well-balanced mix of funds. Even though index funds already are diverse, you can’t just buy one index fund and be done with it.

 

Interested in learning more? There are lots of free and paid resources for those who want to start investing in index funds. Here are some of the top resources for index funds:

  • The Motley Fool
  • Kiplinger’s Personal Finance
  • Investopedia
  • Money Magazine
  • Forbes

Not feeling confident in your investing skills? You can also hire a financial planner to choose the funds for you or pick a robo advisor.

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