An index fund aims to follow a market index—a published group of investments—rather than select investments in an attempt to beat it. But funds that all use the label “index” can follow very different markets and charge different costs.
This checklist can help you compare funds before making a choice. It is for learning, not a recommendation to buy a particular investment: even a broadly diversified index fund can lose value, and you can lose money.
What to have ready
Find the investment choices available in your account, such as a workplace retirement plan or brokerage account. You will also need each fund’s name or ticker, prospectus or fund profile, and information about fees. A prospectus is a document that explains a fund’s goals, risks, costs and operation.
Steps to compare index funds
- Choose the account and investment role. Check whether you are investing through a workplace plan, an individual retirement account or a regular brokerage account. Decide what job this investment is meant to do in your overall plan. Account rules, available funds and transaction costs can differ.
- Identify the index the fund follows. Look up the fund’s benchmark in its profile or prospectus. An index might track a broad slice of the U.S. stock market, large U.S. companies, bonds or a particular industry. “Index fund” alone does not tell you which one. A sector fund, for example, is narrower than a broad-market fund.
- Check what the index includes. Review the fund’s stated investment objective and holdings. Ask whether it holds many kinds of investments or concentrates on one market segment. A fund that owns many companies may still be limited to one country or type of asset, so consider how it would fit with your other investments.
- Compare the expense ratio. The expense ratio is the fund’s annual operating expenses expressed as a percentage of its assets. Find it in the prospectus or fund profile and compare funds that track similar indexes. Costs reduce the amount of your investment that remains invested over time. Also check for account or transaction fees; the expense ratio is not necessarily the only cost.
- For similar funds, compare how closely they follow the index. A fund’s returns may differ from its benchmark because of expenses and other factors. Look for the fund’s reported performance against its stated index over matching periods, while remembering that past performance does not predict future results. Compare like with like: different indexes are not interchangeable benchmarks.
- Check how you would buy and manage it. A mutual fund and an exchange-traded fund (ETF) can both track an index, but they trade differently. Mutual funds are generally bought or sold through the fund at a price calculated once each business day; ETF shares trade on an exchange during the day. Check your account’s available choices, minimums, trading fees and any other costs before placing an order.
- Read the risk information, then make a deliberate choice. Review the prospectus section on risks and make sure you understand what could cause the fund to fall in value. Don’t choose solely because a fund had strong recent returns or the lowest displayed fee. If you proceed, follow your account’s instructions and confirm the fund name before submitting an order.
Things to know
Investing regularly can make contributions part of a routine, but it does not remove investment risk or ensure a profit. A fund’s value can rise or fall, and different fund types carry different risks. If you have a workplace plan, compare its investment options and fees with the plan documents rather than assuming every fund available elsewhere is also available in your account.
A useful first comparison is simple: what index does the fund track, what does that index cover, what does the fund cost, and how does it fit your plan? Taking time to answer those questions can help you make a more informed choice without mistaking “index fund” for a complete description.
