Getting rich quick is great, for those tiny, tiny, tiny percentage of the population. For the rest of us, there are several proven ways to get rich slowly. One of those ways is investing in index funds.
An index fund is a collection of stocks that track the performance of a specific market. The most famous Index Fund is the S&P 500. The S&P 500 tracks the performance of the 500 largest companies in the U.S. So when you invest in the S&P 500, your money is invested in all 500 companies. The genius of this type of investing is that it’s naturally diversified. It’s much less riskier than investing in an individual stock like Amazon, Apple or Tesla.
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Sure, there is a chance of hitting it big when you invest in one individual stock if that specific stock shoots up. The problem is the opposite is true too. If that stock tanks for whatever reason, and nobody can predict these things, then your investment tanks too.
But if you invest in the S&P 500, and let’s say Apple tanks, that’s only a tiny percentage of your investment, so your investment will be more or less intact.
The value of the S&P 500 goes up and down, of course, because it’s tracking the performance of that specific market, which is the 500 biggest companies in America. But your risk is minimized due to the diversity of the companies.
Future returns are not guaranteed, but the S&P 500 has historically generated nearly a 10% average annual return over time for investors. That’s a goldmine for something as passive of an investment as this.
Other popular Index Funds include funds that track the whole stock market, the Vanguard Total Stock Market Index Fund, for example, has over 4,000 stocks in its portfolio, index funds that focus on stocks with high dividends, and index funds that focus on real estate investing.
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How to Choose the Right Index Funds
Which index fund to invest in really depends on what your goal is for your investment and how much risk you’re willing to take. Like I said, the S&P 500 is probably one of the least risky index funds available but if you want to be more aggressive, you can invest in other index funds that invest in less companies but focus on growth.
The Vanguard Growth ETF, for instance, invests in 235 U.S. large cap growth stocks. Tech stocks are highly represented in this index fund, which means if the tech industry does great, your returns will be higher. It’s riskier than investing in the 500 largest companies in America but it’s still much, much safer than investing in just one tech company.
Mutual Fund vs ETF
An index fund can either be a mutual fund or an exchange-traded fund, also known as an ETF. The difference between mutual funds and an ETF is that most mutual funds are actively managed by fund managers while ETFs are mostly passive investments that are bought and sold the stock exchange like stocks throughout the day.
ETFs don’t require a minimum amount you need to invest in them because they trade like regular stocks. You can buy just one share of that specific index. Mutual funds on the other hand normally have a flat dollar amount you need to invest as a minimum initial investment.
Which one you choose to go with depends on your goals. Since ETFs are passively managed they are generally less expensive and perform at the average level. Mutual funds tend to be more expensive and those looking to outperform the market might choose them because they’re actively managed, although they don’t guarantee outperforming the market.
How to Start Investing in Index Funds
The first thing to do is open an investment account, like a brokerage account, individual retirement account, IRA, or Roth IRA. Some of the biggest companies you can open an account with include Fidelity, Charles Schwab, and E*trade.
Transfer your first investment amount into your account and move on to the next step. A note here, I highly recommend automating your investment. This means setting a specific amount of money to be transferred every month into your account and invested. This will make your investment even more passive and way more disciplined than having to login to your account and transfer a specific amount every month. This way you set it and forget it and let your money do the work.
Your next step should be choosing which index fund is the best fit for your investment goals, and this is where you have to do your research. If you’re younger and have the time to be more aggressive with your investment, you might choose index funds that focus on companies with high growth potential. If you want to be more conservative with your investment, then you might go with something that is more diversified and less risky like investing in the whole stock market or investing in the 500 biggest companies.
Do you want to focus on real estate? There are index funds for those. Do you want to focus on companies with a history of reliable dividend payments, which are payments made by companies to its shareholders, often quarterly. There are index funds for those. You can pull out the cash from these high dividend index funds or choose to reinvest them.
Some Great Index Funds
Our number one choice is the S&P 500 index fund. If you have an account with Fidelity, you can choose the Fidelity ZERO large Cap Index Fund, which tracks an index of more than 500 large U.S. companies. There is no minimum amount, so it’s a great choice for beginners. If you have Schwab, you can invest in the Schwab S&P 500.
The SPDR S&P Dividend ETF is a top-performing index fund for those who want to focus on high dividends. The fund tracks companies with the highest dividend yields.
The Vanguard Real Estate ETF is best for those who want to invest across the real estate market.
Another great one is the Schwab Emerging Markets Equity ETF. This fund focuses on a collection of large and mid cap stocks in more than 20 developing countries with large concentrations in China, India, Taiwan, Brazil, and Saudi Arabia. This is a great fit for those who want to venture outside of investing in just U.S. companies but don’t want to take the risk of investing in just one developing country.
