Hello friends, my name is Aditya. Hope all of you are fine by grace of god. Today we are going to talk about an interesting topic and that is index fund. This is the most interesting topic which i wanted to talk and i hope you will also find this topic more interesting.
What is index fund
You can say that index fund is like mutual fund which try to replicate the index and obviously every index fund have the same goal. In simple words, if the market goes up to 0.45%, then fund will also goes upto 0.45% and if the market goes down then the index fund will also goes down. Sometimes it may happen that there will a little bit difference between the returns of the indices and return of the index fund due to several factors like expense ratio, tracking error etc. We will discuss about it in the next article. (Here index and indices are two same thing. Index/indices refers to measurement of the price performance from the group of shares . For example in india, two biggest indices are nifty 50 and sensex. Similarly, SandP500 and Nasdaq are the two biggest indices of usa.
History of index fund
Now also in usa, index fund is famous but as an indian i can tell you one thing index fund is very underrated in our country. The first index fund was introduced in 1976 by John boggle and due to this contribution towards index funds, it became so famous in usa. The name of his first index fund was vanguard 500 index fund which is still enjoying it’s existence. It replicates/copy the returns of SandP 500. Even legendary investor Warren buffet also praise this investment strategy.
Who should invest in index fund
As i alredy said I don’t know about any country but in india index fund is underrated. Index fund is underrated in developing countries like india which gives opportunity to retail investors to invest their money in index fund. If you don’t know anything about stock market and you don’t have much money to invest then index fund is a great platform for you because obviously everyone is not Warren buffet. The cost of index fund is very low like 0.1 or 0.2 as compare active mutual fund. We will discuss about active mutual fund latter. In us i have seen alot of index funds whose expanse ratio or you can say the cost fixed by that fund house is like 0.03% (recent expanse ratio of vanguard SandP 500). But in india the expanse ratio charged by india is slightly higher.
People who don’t want to take risk but still want to invest in the stock market, they can also invest their money in the index funds because the object of index is to copy (replicate the returns of the indices) Another advantage of invest your money in the index fund is disversification of stocks. It means that it invest in types of industry of sectors like finance, technology etc. In india nifty 50(nifty is an index which comprises of 50 stocks) for example gives more weightage (importance) to financial sector (35.04), technology or IT sector(15.11).
Disadvantages of index fund
Every investment strategy has some advantages and disadvantages. Similarly this strategy has also some disadvantages. When the rebalancing of an indices/index starts, market select the good stocks and removes the bad stocks. I think this rebalancing of indices happen on quarterly basis in every country. If iam wrong, please let me know in the comment section. So during the rebalancing of the indices, there are some index funds who can’t able to sell those shares which have been by the market due to their poor performance and that’s why noone wants to buy those shares. That creates a huge gap between the returns given by the index funds and the returns given by your local indices . The difference between that return may seems very small to you but that creates a huge tracking error.
Index fund is not for those people who wants to beat the market. If you want to beat the market, then active fund is a great platform for you. In very rare cases it may happen that the active mutual fund mangers beat the index funds but that case is very rare because active fund is managed by the professional people who have more knowledge than us . In order to beat the market they take more risks so that they can generate higher returns for the investor. In past the great fund managers who could able to beat the market are Charlie Munger(partner of Warren buffet), Peter Lynch etc.
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