Are Index Funds Suitable for New Investors?

Do you seek returns that match the stock market? Are you looking to build wealth steadily over some time? If this is your first time in equity mutual funds, you can invest in index funds. It tracks the portfolio of a stock market index to offer you a matching return. Many market-savvy investors pick sector-based index funds that focus on IT, banking and healthcare. However, should new investors put money in index funds?

What are Index Funds?

Index funds are passive mutual funds that track a stock market index such as the Nifty 50 and the BSE Sensex. It helps you get returns that match the performance of the stock market. 

The fund managers of index funds invest in the same set of stocks that are part of the stock market index portfolio in the same proportions. 

Moreover, it is a low-cost investment as you don’t need the services of a research team to pick stocks. It helps you save on management fees, thereby having a lower expense ratio. 

Are Index Funds suitable for new investors?

Index funds are appropriate for first-time investors in the equity market. For instance, you can invest in index funds that track the Nifty 50 or the BSE Sensex to build your portfolio. 

It helps as these index funds have well-diversified portfolios across sectors and industries. Moreover, you get exposure to market leaders and well-established companies, ideal for first-timers in the equity market. 

Index funds are an ideal approach for risk-averse investors to build wealth over the long run. It helps you invest in equities without the additional risk associated with actively-managed equity funds. 

You must invest in index funds if you seek a well-performing investment. For instance, stock market indices such as the Sensex and Nifty 50 replace stocks of under-performing companies in their indices with solid performers. You don’t have to rebalance the portfolio to attain your long term financial goals.

How can first-timers pick suitable index funds?

You must pick index funds with a lower tracking error to get returns that match the stock market index portfolio. For instance, choose index funds with a tracking error of around 0.06% to 0.15%. 

Moreover, you must opt for index funds with a lower expense ratio to increase your overall returns over time. It helps if you check top index funds based on absolute returns over three to five years. 

You must pick index funds with sizable Assets Under Management or AUM. It helps as these funds can handle the sudden redemption pressure of large investors. You can invest in index funds with AUM above Rs 500 crore. 

If you seek an easy and low-cost approach to investing in the equity markets, you can look at index funds. It helps as the fund manager sticks to the mandate, eliminating investment bias. 

As more investors enter the Indian stock market, they will develop like their Western counterparts. It means almost all stocks are well researched, giving few opportunities to earn market-beating returns. In a nutshell, first-timers in equity investments can pick index funds for returns matching the stock market.

For any clarifications/feedback on the topic, please contact the writer at cleyon.dsouza@cleartax.in