What is an index fund?
In one line: An index fund is a mutual fund or ETF that copies a market index, like the S&P 500, by holding the same stocks in the same weights.
A simple example
An Index is a list of stocks with rules, like the S&P 500: about 500 large US companies, weighted by size.
An index fund just copies the list. If a company is 5% of the index, it's about 5% of the fund. No one is guessing which stocks will do best.
Say you put $1,000 into an S&P 500 index fund. If the index rises 8% over a year, your fund should rise close to 8%, minus a small fee. If the index falls 15%, your fund falls about 15% too. Losses are part of it.
Why it matters
Index funds are simple and usually cheap. Because no one is paid to pick stocks, their Expense ratio tends to be low.
Vanguard launched the first index mutual fund for regular investors in 1976. Today index funds come as both mutual funds and ETFs, tracking stocks, bonds and more.
They give broad Diversification in one purchase. You own a small piece of hundreds of companies, so one company's bad news matters less.
Our page on active vs passive investing compares the two approaches.
A common mistake
Thinking all index funds are the same. An S&P 500 fund, a Nasdaq-100 fund and a small-company fund follow very different lists and can behave very differently. Two funds tracking the same index can also charge different fees.
"Index fund" tells you how the fund is run, not what it holds. Always check which index it tracks.
Questions
Are index funds good for beginners?
Many beginners like them because they're simple, spread out and often low-cost. They still go down when the market does.
Can an index fund lose money?
Yes. It moves with its index. When the market falls, the fund falls.
What's the difference between an index fund and an ETF?
An index fund describes the strategy: copy an index. An ETF describes how it's bought: on an exchange. Many ETFs are index funds.
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