Mutual Funds
Index Funds
What are Index Funds?
Index funds are a type of mutual fund or exchange-traded fund (ETF) designed to replicate the performance of a specific index, such as the S&P 500 or the NASDAQ-100. They follow a passive investment strategy, aiming to replicate the index's composition and returns rather than trying to outperform it. This is achieved by holding all or a representative sample of the securities within the index in the same proportions. By investing in an index fund, individuals can gain exposure to a broad range of securities within the index, offering diversification and aligning their investment returns with the index's overall performance.
What are market indices?
A market index uses standardized metrics and methodologies to measure the performance of a basket of individual securities. They’re often used as a benchmark for assessing the performance of a given investment. Some of the best-known indexes include the Dow Jones Industrial Average and the S&P 500. Comparing the performance of a given investment to a market index can help you understand how well your investments held within your portfolio are performing and whether changes to your portfolio may be required to earn higher returns.
How do index funds work?
Index funds work by purchasing all, or a representative sample, of the securities included in the index they aim to track. The fund managers adjust the holdings periodically to ensure the fund continues to accurately represent the index. This passive approach minimizes the need for frequent buying and selling of assets, resulting in lower transaction costs and management fees compared to actively managed funds. Investors benefit from the fund's ability to provide performance that reflects the entire market or sector represented by the index, making index funds an attractive option for long-term investment strategies focused on simplicity, diversification, and consistent market participation.
Key Highlights
Index Funds vs Actively Managed Mutual Funds vs ETF
Explore the differences between fund types.
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Index Fund (Passively Managed) |
Actively Managed Mutual Fund |
Actively Managed Exchange Traded Fund (ETF) |
|
|---|---|---|---|
|
Overview |
Track the performance of market indices to yield market-average returns. Prices are set daily at market close. |
A pool of pre-selected securities that seek to outperform the market. Prices are set daily at market close. |
A collection of securities that trade on a stock exchange. Prices fluctuate throughout the day as trades are made on the open market. Prices fluctuate throughout the day as trades are made on the open market. |
|
MER |
Lower expense ratio |
Higher expense ratio |
Lower expense ratio |
|
Management |
Requires a fund manager |
Requires a fund manager |
Requires a fund manager |
|
Fees |
They may have management fees |
They have both transaction and management fees |
They have both transaction and management fees |
Index Fund FAQs
How do I buy index funds in Canada?
You can buy and sell index funds by opening an investment account. If you open an investment account with a bank, credit union or another financial institution, they can help you select an index fund that’s right for you. Alternatively, you can select index funds yourself by opening a self-directed investment account through an online brokerage firm like TD Direct Investing that gives you access to a wide variety of investment asset classes including index funds, mutual funds, ETFs, stocks and more. Commissions and fees apply depending on what you trade and your minimum account balance1.
Are index funds a good investment?
It all depends upon your investing strategy. For some investors, index funds may be a low-cost way to spread their investment dollars across many different investments and build a diversified portfolio. They have a lower MER compared to non-index ETFs and mutual funds. Investing in index funds lets you invest in a diversified range of investments at lower costs.
Are index funds volatile?
The stock market can be volatile and unpredictable at times. However, most market indices tend to rise in value over time. As index funds mirror the performance of market indices, while not guaranteed, they may be considered by some to be stable investments over the long-term and can be helpful in building a diversified portfolio.
How much money do you need to invest in index funds?
Index ETFs have no minimum, and you can buy as little as one share. Make sure to consider your capacity for risk and investment objectives before investing.
How do I buy S&P 500 index funds?
The S&P 500 is an index that tracks the value of stocks offered by the 500 companies in the U.S. with the largest market capitalization. You can’t invest directly in the S&P 500, but you can invest in individual stocks tracked by the S&P 500, or mutual funds and exchange traded funds that track the S&P 500. To try and match the performance of the S&P 500, mutual funds that track the S&P 500 usually include stocks from most, if not all, of the companies listed within the S&P 500.
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