While investors regularly allocated a part of their income into the market, the COVID-19 pandemic in 2020 forced them to see that while it was fine to take risks when things were fine before the pandemic, the same wasn’t fine when everything shut down. At that time, a lot of investors felt the need for a stable income. As the need was felt, some started investing in index funds.
What are index funds?
They are a type of mutual fund that imitates the portfolio of an index. Index funds are also called index-tied or index-tracked mutual funds. They are passively managed as the main objective of index funds is to track and emulate the performance of a popular stock market index like S&P BSE Sensex and NSE Nifty 50. The asset allocation of an index fund would be the same as that of its underlying index. It is for this reason that the returns offered by index funds are comparable with their underlying index. In an index mutual fund, your money is pooled with other investors. Once enough funds are accumulated, the fund manager allocates them to instruments that make up the index such as stocks and bonds. While the fund may or may not invest in every component of an index, the main aim is to get an appropriate sample of every piece in order to effectively track the index performance over time.
What are the advantages of index funds?
Listed below are the several benefits of investing in an index fund:
- They come with tax benefits:
As stated earlier, index funds are passively managed. As the investments made here are passive in nature, these funds are known for usually generating a low turnover. Low turnover means very few trades are placed by a fund manager in a year. Fewer trades result in fewer capital gains distributions that can be passed to the unitholders.
- They don’t have exorbitant fees:
These funds are known for mimicking their underlying benchmark. Also, there is no need for a team of research analysts who can help fund managers to pick the right stocks. Moreover, there is no active trading of stocks. All these factors lead to the low managing cost of an index fund. So, if you are looking for an option in which you don’t need to pay a huge fee, you don’t need to look further than index funds.
- They provide investors with a broad market exposure:
When you opt for an index fund, you ensure that the portfolio is spread across all sectors and stocks. Through this action, an investor can seize the probable income on the larger segment of the market with the help of a single index fund. Consider this scenario. You decide to invest in the Nifty index fund. By doing so, you enjoy the investment exposure to 50 stocks spread across 13 sectors. Through index mutual funds, you can invest in businesses of different sectors ranging from pharma to financial services.
- They are a stable option:
These funds are suited for those investors who are searching for an investment tool that can provide them with a stable income at regular intervals. Another alluring feature of these funds is that they do not require extensive research and tracking. Consider this hypothetical scenario. You are looking to invest in an asset like equities. However, you don’t want to expose yourself to the risks associated with actively managed equity funds. So, you can go ahead and opt for a NIFTY or SENSEX index fund.
- They are considered easier to manage:
Another benefit is that they are easier to manage as investors do not have to worry about how the stocks on the index are performing in the market. All that’s needed to be done in these funds is rebalancing the portfolio periodically.
The stocks in index mutual funds generally belong to well-established companies. This means that they are not affected much by the market fluctuations. Hence, investors can enjoy stable income consistently.
Mutual Fund Investments are subject to market risks, read all scheme related documents carefully.