What Are Index Funds?

Index funds are an appealing choice for first-time investors or those looking to passively invest their money in established markets. If you want to invest in index funds you have two choices. You could sign up to a trading platform and buy your own index funds or use a robo-advisor that typically invests money in index funds on your behalf.

What is an index fund?

If you're learning about investing then you’ll probably see a lot of talk about “index funds.” But what exactly are they?

Index funds are kind of like a “mini-me” of an established market index, such as S&P 500 or the Dow Jones Industrial Average. When you invest in an index fund your money is spread across many companies in a popular index, so all of your investing eggs are not in one basket, instead of just investing in individual stocks. That’s where index funds come in very handy!

Index funds tend to be appealing options for investors that believe in a passive investing style, where the emphasis lies in mirroring the market instead of constantly trying to beat it. Since index funds mirror the market’s performance, you don’t need to be concerned with beating the market, or picking stocks and buying hundreds of “winners” that will outperform the market’s annual growth.

How to invest in index funds

Index funds are relatively simple to buy. Here are some step-by-step instructions to get you on your way to buying your first index fund.

1. Decide what index funds to buy

Before you get started you’ll have to decide what kind of market index you want to track. Do you want to go really broad with something like the S&P 500? Maybe you want to track the market index of a particular country. That might be the S&P/TSX in Canada, the Dow Jones in the United States or the Footsie in the UK. You might focus on companies that have a high valuation (high market capitalization) or a low valuation (low market capitalization).

If you’re not sure which index fund might be best—or if you’re just a bit overwhelmed by the whole process in general—then it might be a good idea to look into a robo-advisor. While the name may sound very futuristic, it’s actually quite simple: An algorithm develops a balanced and diversified portfolio for you based on certain information you’ve provided, and even automates regular investment deposits to ensure your money keeps growing. Apart from making this whole investment thing super easy, it also ensures that you can participate in various markets by automatically investing in many index funds, and also automatically re-balancing your portfolio if the proportions in the index shift. It’s like having a financial advisor, but at a fraction of the cost.

2. Choose a broker/trading platform

If you want to choose from a wide variety of index funds, going through an online broker is probably your easiest—and cheapest—bet. Look out for brokers offering $0 commission trading so you don't have to pay high fees to trade index funds. With 99.9% of our lives lived out online, it’s no wonder that the same goes for investing. You can comfortably sign up for an account and buy your first index funds without even having to set down that breakfast burrito you’ve been working on!

3. Make the trade

Once you’ve decided what index funds to buy and the platform you want to trade on, it’s usually pretty intuitive from here on out When you first sign up for an investment platform or an online brokerage, you have to link up your bank account to fund the investment account and be able to start investing. You pick how many shares of the fund you want to buy, and click the “buy” or “trade” button. Just like ordering that second breakfast burrito online!