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How to invest in index funds
The ins and outs of bundling stocks with this accessible investing option.
Invest in index funds through mutual funds or exchange-traded funds (ETFs). We’ll focus on buying the latter because you can buy them whenever you want throughout the trading day. Also, ETFs are offered by almost every trading platform, often without commission.
3 steps to invest in index funds
Investing in index funds is as simple as buying any other stock on the stock market. Here’s how it works:
1. Pick an index
An index fund tracks a market index — which is made out of multiple stocks or other assets. That’s why the index fund performs similarly to the market index it tracks.
There are many indices to choose from, but the most popular ones are:
- S&P 500. This index tracks the 500 largest companies listed on US exchanges. Some of the most popular companies in this index include Amazon, Google, American Express, Berkshire Hathaway and FedEx.
- Russel 2000. This index tracks the smallest 2,000 companies in the Russell 3000 Index. This includes companies like 3D Systems Corp, AMC Entertainment, Evofem Biosciences and Novavax.
- Nasdaq Composite. This stock market index includes almost every stock listed on the Nasdaq stock exchange. It mostly includes companies in the information technology sector, such as Apple, eBay, Intel and Google.
2. Pick a fund
Depending on which index you want to invest in, there could be multiple ETFs tracking it. For example, more than 15 ETFs track the S&P 500. Here’s what to consider before you choose a fund:
- Expense ratio. This is the ETF’s annual fee. Luckily, it’s relatively low for popular funds and rarely goes above 2% annually.
- Leverage. Some ETFs are 2x or 3x leveraged. This means the fund will move two to three times as much as the index would move in either direction. These funds come with a lot of risk attached, so they’re not for beginner investors or for those with a low risk tolerance.
- Long or short. Long ETFs rise if the index rises and fall if the index falls. Short ETFs move inversely — your investment rises if the index drops and vice versa.
3. Open a brokerage account and buy the index fund
Once you’ve decided on your index fund, open an account with a brokerage. If you intend to frequently trade ETFs, consider a brokerage with $0 commissions, like Robinhood, Webull or Interactive Brokers’ IBKR Lite account.
Here’s how to buy an index fund from a brokerage account:
- Log in to your account.
- Search the fund’s ticker symbol.
- Enter the number of shares you want to buy and at what price.
- Review your order and submit.
Compare online trading platforms to invest in index funds
Don’t have a brokerage account? The following table shows some of the stock trading platforms you can use to access index funds. Consider a brokerage that has $0 commission on ETFs to save money on your trades.
It’s easier to invest in index ETFs
Most ETFs are similar to traditional index mutual funds in that they are low-cost and track a major underlying index, though there are several key differences:
|Trade and listing||Pricing||When to buy and sell||Minimum investment||Fees|
|ETFs||Traded like shares on the stock exchange||Market value, depends on stock market performance||Any time during the trading day||Lower minimum — sometimes under $100|
|Mutual funds||Unlisted and bought from issuer||Net asset value of underlying securities.||At the end of the trading day||Can require as much as $2,500|
Pros and cons
A few bright spots for index funds:
- Cheaper. By investing in an index fund, you invest in all of the assets in the fund. If you bought all the assets individually, you would pay way more in transaction fees alone.
- Higher returns. Indices have frequently beat the average returns of managed funds.
- Easy to trade. Trade index funds as easily as you would trade any individual stock.
- Diversifies your portfolio. Investing in an index fund offers access to a range of companies from various industries.
No investment is 100% safe. Here are some risks to be aware of:
- Potential to lose money. Like any investment, you take the bad with the good. When an index drops, so does your investment.
- Not all assets are safe. Some index funds track volatile global markets, such as the oil sector, while others bundle in riskier investment assets, especially leveraged ETFs.
- Annual fee. ETFs come with expense ratios — often around 1% annually.
Index funds are well-diversified, accessible investments, making them a popular choice for new investors. But there are also riskier and more complex ETFs thrown into the mix of most mainstream brokerage accounts. It pays to familiarize yourself with their benefits and dangers, and to compare brokerage accounts before putting your money to work in the stock market.
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