In India, people have started realizing the benefits of investing in index funds over putting money in the bank. It is so far one of the easiest ways to invest in the stock market without worrying about the numerous risks involved. However, you need to learn some ropes if at all, you want to make perfect choices. By the end of this article, you will have learned what an index fund is, how it works, who should invest, and the numerous things to consider before making your investment.
- 1 What are index funds?
- 2 Who can invest in Index funds?
- 3 The workings of an index fund
- 4 Are you thinking of investing in an index fund?
- 5 Factors to consider when investing in index funds
- 6 How are the returns Index funds tend to have different returns even though they have nearly similar profits throughout?
- 7 How long are you willing to invest?
- 8 How to begin
- 9 Trusted index funds in India
- 10 Final Words
What are index funds?
An index fund is a form of investment that is made through security market indices to earn returns. With index funds, you tend to save in similar securities while maintaining a specific proportion throughout.
What makes index funds very popular is that the funds the management of funds is done passively, and this means that you don’t need the intervention of a fund manager. Index funds also monitor or track the invested funds, and that is why they are sometimes referred to as index-tracked or index tied mutual funds.
When dealing with this sort of investment, you need to understand the main categories of index funds. They include the index mutual funds, index ETFs, and those funds that tend to map sectoral indices. In India, there are a variety of indices used by people to invest in index funds. However, the two leading indices are NSE Nifty and BSE Sensex.
The main feature of index funds is that the expenses are low compared to its contemporaries. It is also the main reason why they are much more preferable.
Who can invest in Index funds?
Index funds are for anyone who wishes to invest in the stock market without exposing themselves to the risks that come with fund managers. It is also an excellent investment for an individual who wants to enjoy the diversification that comes with investing in the broader market or index while maintaining lower costs.
This is because the TER or Total Expense Ratio of index funds is only 1%. That is by the research carried out by the Securities and Exchange Board of India. You are however required to seek guidance from a qualified financial planner for you to understand better about index funds before you proceed to invest.
The only problem with index funds is that they tend to bring in predictable but low returns. This is why most people opt to risk by choosing stock investments whose fund managers are active. Within a short period, the profits earned from index funds can match those of actively managed stock investment.
A considerable difference will, however, be noticed after some time. This is because the high risk of actively managed funds tends to earn massive returns. The decision you make on whether to invest in actively managed funds or index funds depends on how much risk you are willing to take and your financial goals.
The workings of an index fund
You need to understand what an index is before you get to how index funds work. An index is the particular security group that is in control of a specific portion in the market, for instance, NSE Nifty and BSE Sensex in India.
The index fund’s primary work is to track the various indices. Unlike funds that have active managers, index funds don’t have dedicated researchers whose sole purpose is to traverse the stock market looking for suitable investment opportunities. Instead, they have a passive fund manager who determines what stocks are to be sold and which ones are to be brought depending on the market composition.
The work of the passive fund manager in an index fund is to ensure that the tracking error is as minimal as possible. A tracking error only occurs when there is a gap between the fund performance and the specific index. Index funds only try to come up with a similar performance to that of an index they are benchmarking.
This is very different to actively managed funds whose sole purpose is to exceed the index they are benchmarking. This means that once you invest in Index funds, the passive fund manager will only try to achieve returns that are slightly more or equal to the profits of the index.
Are you thinking of investing in an index fund?
Here are the three steps to take. There are numerous steps that you should take once you decide to invest in index funds. Make sure you pay close attention to the steps mentioned below so that you don’t end up making an investment mistake that will end up affecting your returns.
Research the best place to purchase index funds This is one of the crucial decisions you have to make when investing in an index fund. You can decide to either go for a brokerage or directly for a mutual fund company.
For you to make the best decision, you will need to consider factors such as how convenient is the Mutual Fund Company or brokerage when it comes to accessing different index fund options. Go for a Mutual Fund Company if you want limited and straightforward options. In case you want unlimited investment options, go for a brokerage. You also need to consider the fund selections offered, the trading cots and in case there are any free trading options.
decide which index you wish you wish to invest In India alone, there are a variety of indices you can invest. You, however, need to make the right choice that will provide you with the diversification you require. Picking one broad index is always recommended. It is the only thing you need for you to track various indexes and make a good return. You should make your decision depending on the size of the company, its geography, the kind of business it focuses on, and the type of assets that are it focuses on.
Know the expenses accrued As mentioned above, indeed, index funds are generally cheap. You should, however, know that there are other costs like management costs that differ from one Mutual Fund Company to another. So before making your investment, try and understand the expenses that come with a particular Mutual Fund Company. Check the expense ratio, the tax cost ratio, what is the minimum amount you should have in your account, and the minimum investment that you should make.
Factors to consider when investing in index funds
After deciding whether you want to invest via a company or brokerage, picking the right index, and understood the expenses you are to accrue, consider the factors below to make the best decision. What are your financial goals?
The best thing about index funds is that they can help you generate just enough money within a specific period. You have to decide whether your financial goals are short term or long term. Index funds can also help you come up with retirement money.
How are the returns Index funds tend to have different returns even though they have nearly similar profits throughout?
This is because those companies tend to have a high rate of tracking errors, which end up minimizing the return amount. So before investing, make sure you go for a company that has a low tracking error.
How long are you willing to invest?
Sometimes, index funds tend to undergo fluctuations; this means that if you are in for short-term investment, then you will end up having small earnings. It is thus crucial that you only invest in index funds if you want to invest for an extended period. That way, you will end up making a lump some amount of money.
How to begin
If you are wondering how to invest in index funds, then worry not. You will first be required to sign in to a Mutual Fund Company. You will then have to indicate the amount you are willing to invest as well as the period your investment is to go for. You will be given your e-KYC and allowed to invest in the index from the available companies.
Trusted index funds in India
The type of fund you pick is essential. It is the one that determines who much you will be able to make and whether most of your money will be lost due to tracking error. India’s index fund market is yet to pick up a faster pace, but some index funds are doing remarkably well, for instance,
HDFC Nifty Fund Growth,
UTI Nifty Index Fund Regular Plan-Growth,
NSE Nifty Plan growth and
HDFC Index Nifty 50
An index fund is an excellent way of investing your money and getting returns that can help you to achieve your financial goals. In case you are the type of person who wishes to invest in the broader index without taking risks, then you need to consider index funds. The above information gives you every detail you need to know about index funds and how to make remarkable choices so that you may end up with the best returns.
If you still have doubts, you can leave your queries in the comment section.
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