Index Fund

An index fund is built to track a benchmark such as the S&P 500. Nobody picks the holdings; the fund simply owns the index constituents in their weights. It does not try to beat the market, only to match it.

That simplicity is the advantage. With no human judgement to pay for, running costs are very low — typically 0.1 to 0.5% a year against 1 to 2% for active funds.

The long-run evidence supports the approach. Over fifteen years or more, most active funds fail to beat their benchmark after fees. Warren Buffett's instruction to put his wife's inheritance into an S&P 500 index fund rests on the same finding.

Index funds do fall when the market falls, though. They offer no protection on the way down. They suit money you can leave alone for years, and they work best paired with steady monthly contributions. Most ETFs are index products too, so they behave similarly. The difference is that index funds price once a day while ETFs trade in real time like shares.