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Why bother buying individual stocks when you can buy the whole market?
That’s what you get when you buy an index fund – a reliable, profitable way to build long-term wealth that works for almost any investor, according to a range of personal finance experts.
An index fund is a group of stocks that follow a specific market or sector. For example, an index fund that tracks the S&P 500 would allow you to invest in each of the 500 largest publicly traded companies in the United States, all at once for a small fee.
Individual actions can rise and fall over time, and some may go away altogether. But the entire stock market has a proven track record of growing steadily and steadily over long periods of time, and index funds are an easy way to own some of that growth.
“I don’t have time to look at financial statements all day. I have to walk my dog. I have to take a vacation. That’s why I like index funds. It’s an all-in-one package, ”says Delyanne Barros, investment expert and founder of the Slay the Stock Market investment course, who says she keeps 85% of her wealth in index funds.
By investing in index funds, your dollar is spread among many assets, which reduces your risk of losing money.
“Index funds tend to be inexpensive, well-diversified, and available to most investors,” says Mark Leong, wealth management advisor at Northwestern Mutual.
Here’s what you need to know about an index fund, how to choose an index fund, and how to start investing.
5 steps to investing in index funds
You can get started pretty quickly with index funds. But as with any investment, it’s always important to do your own research before committing. Let’s go over the steps for investing in index funds.
Set your goal
The way to make money in index funds is with patience and time. “The name of the game here is long term,” says Barros. For example, the S&P 500 has generated negative returns in 31% of the years of its history, according to data collected by Measure of a Plan, a personal finance website. But there wasn’t a single 20-year period in which he lost money.
With index funds, “you’ll end up making money no matter what,” personal finance expert Suze Orman recently told NextAdvisor. “Everything will be fine as long as you have 5, 10, 15 years before you need this money, preferably longer.”
Remember to check your investments every now and then to refine them.
You also need to decide how much inventory you want to have. The older you are, the more generally your investment strategy will be conservative. But the younger you are, you can afford to be more aggressive with stock index funds because you will likely have money in the market for a longer period of time.
Choose a clue
There are stock market indices that track almost every investment group imaginable. Some follow large companies, such as the S&P 500. Others follow international stocks, such as MSCI Emerging Markets. Indices can also track other investments, such as bonds or currencies. If you’re just starting out, choosing a broad index fund that covers the entire stock market, like the S&P 500, is a good place to start. “Each broker offers one. Look for the one that says S&P 500 or total stock market, ”says Barros.
Choose a fund
Once you’ve found the index you’re interested in, there are usually at least a few options for funds that track that index. Different funds that track the same index will generally have very similar performance histories. But there could be a significant difference in their fees. Look for the index funds that have the lowest fees, also known as the expense ratio. Some index funds, like Fidelity’s, might even have zero expense ratios. “This is music to the ears of an index fund investor,” Barros says.
To invest in an index fund, you must buy shares of that fund. You can invest in index funds through a taxable brokerage account or through tax-advantaged retirement accounts, like your 401 (k), or traditional or Roth IRA.
“You have to go out there and look for the index fund when you set up your retirement accounts,” says Barros. “You can tell it’s an index fund by the title, if it says index, or by the low or no expense ratio. If the expense ratio is 0.1% or less, it is probably an index fund. Some brokerage accounts, but not all, require a minimum investment to get started.
Follow and keep investing
Experts love index funds because they’re easy to manage – you don’t need to do much every day. But that doesn’t mean you have to buy index fund stocks and then forget about them. Depending on your investment goal, decide how much you want to keep investing each month. “For example, if you are looking for financial independence, you can find a compound interest calculator online and run your calculations. If you want to reach your financial independence figure in 30 years, you need to invest X amount per month. You can split it between your multiple accounts, but be sure to prioritize your retirement accounts first, ”says Barros.
Benefits of investing in index funds
- Diversification – With index funds, you can buy a stock but invest in many different assets. This allows you to balance your risk between a range of investments.
- Reduced fees – Index funds are generally passive, so the fees they charge are almost always lower than actively managed funds.
- Proven success – Time and time again, index funds outperform actively managed mutual funds with higher fees. And they’re a more predictable and stable investment than alternative assets like crypto. “Some people comment on my videos and say, ‘I made a 3,000% return on crypto. But crypto collapsed and index funds rose 15%. That’s what I’m talking about, ”says Barros. Over its history, the S&P 500 has generated an average annual return of 8.4%, according to Measure of a Plan.
Disadvantages of investing in index funds
- There will be days of decline – As with any investment, there will be days of decline. But it’s important to keep that long-term mindset in mind. Over long periods of time, total market index funds have a history of rising in value.
Other investment methods
Index funds are a simple and inexpensive way to diversify your investments. But there are many other options available as well. Here are some other investments to consider.
When you buy a share of a single share, you are buying part of the company. When the business is doing well, the price of your shares goes up. When the business is performing poorly, the reverse happens. Your investment in the shares of a company is directly linked to the financial performance of the company. Make sure you diversify your stock portfolio to protect your investments.
An obligation is essentially an acknowledgment of debt. When you buy a bond, you are lending money to a borrower. This borrower can be a government or a business, and he promises to repay the money, plus interest. When the bond “matures”, the term of the loan is over and you will get your investment back with accrued interest. But you can sell the bond before it matures. There are index funds that track bond markets just like there are index funds that track stock markets. Keep in mind that bonds have historically provided lower long-term returns than stocks.
Active mutual funds
Some people prefer investment managers to take an active role in managing their investments. With an active fund, you can count on the expertise of an investment manager in the hope that they will beat the market. But you will generally pay higher fees with an active fund, and active funds tend to underperform the market for long periods of time.
Index funds to get started
The styles and tactics of investing are highly dependent on personal preferences. But for starters, you can try an index fund that tracks the S&P 500. The S&P 500 tracks 500 of the largest publicly traded companies across all industries. Because these companies represent such a large part of the economy, the S&P 500 closely follows the movement of the broader stock market.
Three well-known index funds that follow the S&P 500 are the Schwab S&P 500 Index Fund (SWPPX), the Vanguard 500 Index Fund – Admiral share (VFIAX), the Fidelity 500 Index Fund (FXAIX).
“There isn’t one solution for everyone,” Leong says. “My advice for a new investor would be to develop a holistic plan based on your long-term goals and create a portfolio that matches those goals and your tolerance for risk. “
Are index funds risky?
While index funds help diversify your investments (which can offset risk), all investments can be risky. But investing in a total market index fund over a long period of time is as close to the guarantee of success as you will get. There is not a single 20 year period in the history of the S&P 500 that it has lost money.
Where can I buy index fund stocks?
Index fund stocks can be purchased online from a discount brokerage firm such as Vanguard, Fidelity or Schwab. You can also invest in index funds through most employer 401 (k) plans and tax-advantaged accounts such as traditional and Roth IRAs.
Do index funds charge fees?
Many index funds charge a fee as a percentage of the total value of your mutual fund shares. This is called the fund expense ratio. However, some index funds do not charge any fees.