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An index fund is an investment fund that aims to replicate the performance of a specific market index. Instead of trying to outperform the market, the fund simply follows the composition and weighting of the chosen index. This makes index funds a form of passive investing.
An index fund seeks to match the market rather than beat it.
The fund invests in the same securities that are included in the index, often in the same proportions. For example, if a company represents 5 percent of the index, it will also represent roughly 5 percent of the fund. Because index funds do not rely on active stock selection, management costs are usually lower than those of actively managed funds.
Over the long term, many index funds closely track their benchmark, although small differences can occur due to fees or tracking errors. Index funds offer broad diversification, but they also expose investors fully to overall market movements, including downturns.
Short example:
Suppose an index tracks the 500 largest companies in a country.
An index fund that follows this index buys shares in those same 500 companies.
If the index rises by 8 percent in a year, the index fund is expected to deliver a similar return, minus its fees.
Disclaimer: Investing brings risks. Our analysts are not financial advisors. Always consult an advisor when making financial decisions. The information and tips provided on this website are based on our analysts' own insights and experiences. Therefore, they are for educational purposes only.
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