What Is an Index Fund?

What is an index fund?

An index fund is a type of investment vehicle that is designed to track a certain benchmark index. For example, an S&P 500 index fund aims to match the long-term total returns of the S&P 500. A Russell 2000 ETF aims to match the performance of the Russell 2000 index.

There are index funds that track broad-based stock market indexes, as well as sector-specific and narrowly focused indexes. For example, there are index funds that can be used to invest in the financial sector or in artificial intelligence stocks, just to name a couple of examples.

Index funds can come in the forms of both exchange-traded funds (ETFs) and mutual funds. Index funds are also referred to as passive funds, meaning that the fund's managers don't choose investments -- they simply try to replicate an index. This contrasts with actively managed funds, where managers choose investments with the goal of delivering superior performance over time. In short, an actively managed fund aims to beat the index, while an index fund simply aims to match the index.

Are index funds right for you?

Index funds can be solid investments for individuals of all experience levels and investment styles. If you don't have the time, knowledge, and desire to research and invest in individual stocks, index funds can be a great way to create a diversified investment portfolio that requires little attention or maintenance.

On the other hand, even if you have a portfolio of individual stocks that you believe can beat the market over time, index funds can form a backbone to your portfolio that can give you peace of mind and reduce your company-specific risk.