An index fund is a type of mutual fund that invests in stocks that are similar to those in a specific market index. This implies that the scheme will outperform the benchmark index it is tracking. An index is a collection of securities that define a specific market segment. Index funds are classified as passive fund management because they track a specific index. Under passive fund management, the securities traded are dependent on the underlying benchmark. Furthermore, passively managed funds do not necessitate a dedicated team of research analysts to identify opportunities and select the best stock.
In contrast to an actively managed fund, which seeks to time and beat the market, an index fund seeks to match the performance of its index. As a result, the returns of index funds are aligned with the returns of their underlying market index. The returns are more or less equal to the benchmark, except for a small difference known as tracking error. the fund manager frequently tries to minimize this error as much as possible.
Advantages of Investing in Index Funds
Index funds benefit from the following advantages:
1. Low fees
Since an index fund mimics its underlying benchmark, there is no need for an efficient team of research analysts to help fund managers pick the right stocks. Also, there is no active trading of stocks. All these factors lead to low managing costs of an index fund.
2. No bias investing
Index funds follow an automated, regulation-based investment method. The fund manager is given a predetermined amount to invest in index funds of various securities. This eliminates human discretion/bias while making investment decisions.
3. Broad market exposure
To ensure that the portfolio is diversified across all industries and stocks, investments should be made in a ratio that is similar to that of an index. As a result, an investor can use a single index fund to capture the likely returns on the larger segment of the market. For example, if you choose to invest in the Nifty index fund, you will gain investment exposure to 50 stocks spread across 13 sectors, ranging from pharmaceutical to financial services.
4. Tax Benefits of Investing in Index Funds
Because index funds are managed passively, they typically have low turnover, i.e. few trades placed by a fund manager in a given year. Fewer trades result in fewer capital gains distributions that are passed to the unitholders.
5. Easier to manage
Index funds are simpler to manage because fund managers don’t have to worry about how the market is treating the stocks that make up the index. A fund manager just needs to rebalance the portfolio periodically.
How to invest in Index Funds?
Do you want to learn how to invest in index funds? Investing in index funds has become simple in recent years. You can even do it from the comfort of your home.
Here are the steps you can take to get started on your investment journey:
- On franklintempletonindia.com, you can open a mutual fund account.
- Complete your KYC procedures (if you have not done it yet).
- Enter the necessary details, as required.
- Determine which fund(s) you want to invest in based on your financial goals.
- Select the appropriate fund and transfer the necessary amount.
- If you want to invest monthly through SIP, you can also set up a standing instruction with your bank (systematic investment plan).
Index funds have the potential to save you a lot of money and provide a solid foundation for your future. Because of the recent re-categorization of mutual fund schemes by SEBI (Securities and Exchange Board of India), several financial planners believe that index funds in India are likely to make their presence felt among the various investment avenues in the future.