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What are Index funds: Benefits, Differences and More

11 Mar 2020

 5-mins  Read

What are Index Funds?

Index funds are a type of mutual fund that tracks the performance of a particular index like the NIFTY 50 or SENSEX. These Index funds ensure a performance/returns that are identical to that of the Index(Nifty 50 or SENSEX). The main advantage of these funds is their “Low expense ratio.”

“Expense ratio” is the amount that mutual funds charge for managing investors’ money. A scheme with a lower expense ratio is considered cost-effective. Moreover, They don’t aim to outperform other funds but try to replicate the market. They help the investor in managing the balance of risk in their investment portfolio.

What is an Index Fund?

Why are Index Funds a great bet?

The legendary Warren Buffet is a believer despite his out of the world stock-picking skills. He wants 90% of his wealth invested in Index funds after his death. He says that index funds are the best kind of passive investing. Passive investing broadly refers to a buy-and-hold portfolio strategy for long-term investment horizons, with minimal trading in the market. That is to say, They hold every stock in an index, even big wigs like Reliance, Maruti, and Infosys, and due to their low turnover rates, the fees and taxes are small as well. More on why Warren Buffet thinks that Index funds are the best way to grow money for everyday investors.

They are fantastic because:

  1. Low cost (you can invest a 1000 rupees too)
  2. Less effort to manage (Purchase it and let it do its own thing)
  3. Tax-efficient
  4. Low Risk as it tracks the index and does not underperform the market

Differences between Index funds vs. Equity Mutual Funds

What are the significant differences between these two? Let us break these down under three main categories:

  1. Investment method of Index Funds
  2. The management style of Index Funds
  3. Cost of Index Funds

Investment method:

Both index funds and mutual funds consist of stocks, bonds, and other securities.  Primarily, Index funds mainly focus on tracking the stocks that contain any particular index like Nifty or Sensex. Whereas mutual funds try to outperform the market or Index by selecting a handful of stock.

The Management Style:

A significant difference between these two is their management style; by that, I mean they are an active investment or passive. Index funds are passive – they are not actively trading or adding investments. In other words, Index funds are automated to track with a benchmark index like the Nifty or Sensex. Mutual funds are active – there are full-time fund managers or analysts who are actively picking fund holdings (like individual stocks, bonds, or other securities) and try beating the market.

Cost:

The objective of an Index fund is to generate the same amount of returns as the benchmark index (Nifty or Sensex) minus the fees. Whereas, Mutual funds generally aim to beat the returns of a comparable or related benchmark index minus the expenses. Hence, mutual funds have active managers working full time trying to outperform the market. Therefore, mutual funds tend to cost more in fees (anywhere between 1% to 3%) on the other hand; index funds are generally cheaper (as low as 0.05% to 0.07%). This significant advantage has a higher pull for investors.

Who should invest in Index funds?

Index funds are great for first-time investors or beginners. Those who have a low appetite if risk and expect a predictable return, index funds are a great bet. Index funds do not require active tracking. Hence it’s excellent for people who don’t prefer tracking the stock market on a full-time basis.

How to Invest in Index Funds?

  1.  Sign in to www.roundups.in
  2. Set in your goals and investment amount
  3.  Finish your 2-min KYC process
  4. We invest your money into an index fund.

To sum up, Index funds are a great diversification to your portfolio. They don’t outperform but rather look to track the market. You can start investing as little as Rs. 100 in Index funds, here.

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