Let's Know, Index fund can bet Mutual Fund? Index Fund vs Mutual Fund

 

In this article, We will see that an Index fund is a better option for investment than Mutual Fund or not. we are going to clear all your doubts related to Index fund vs Mutual Fund. So stick till the end to get the answer to all your queries in this matter.

The Index Fund and Mutual Fund are the same but a little bit different from each other. The Mutual Fund is managed by the Fund Manager and on the other hand's Index Fund is managed by the monitors of the Index Funds. 

Let's Know, What is an Index Fund and How does it work?

An Index Fund is a group of Stocks or Bonds with the best performance. It represents the overall performance of the Financial market. 

An Index Fund is like a Passively Managed mutual fund, therefore the Fees charged (also referred to as Expense Ratio) by Index Funds are low compared to the normal Mutual Funds. And most of the time a mutual fund will rise or fall the maximum amount because the Index it's imitating.

Investing through an Index Fund may be an excellent and safe way of diversifying your portfolio as most of the benchmark indices contain big and established companies. And it's also loved by retail or Small investors who don’t want to burn their hand while investing within the stock exchange.

The Index Fund contains the best company in their country and the retail Investors also want to invest their money in the best company in their country. The aim of both sides is the same. So, the retail investor likes to invest in Index Funds.

Working of the Index Fund

When a Mutual Funds tracks a benchmark just like the Nifty, its portfolio will have the 50 stocks that comprise Nifty, within the same proportions. An index may be a group of securities defining a market segment. 

These securities are often bond market instruments or equity-oriented instruments like stocks. a number of the foremost popular indices in India are BSE Sensex and NSE Nifty. Since index funds track a specific index, they fall into passive fund management. 

The fund manager decides which stocks need to be bought and sold consistent with the composition of the underlying benchmark. Unlike actively-managed funds, there isn’t a standalone team of research analysts to spot opportunities and choose stocks.

While an actively-managed fund strives to beat its benchmark, an index fund’s role is to match its performance thereto of its index. Index funds typically deliver returns more or less adequate to the benchmark. 

However, there are often a few differences between fund performance and therefore the index. this is often mentioned because of the tracking error. The fund manager must work towards bringing down the tracking error the maximum amount as possible.

In the case of a weighted index, fund managers frequently stabilize the share of the securities to make sure to make a presence within the benchmark.

Let's know, What is a Mutual Fund and How does it work?

A mutual fund is a collective finance from the investors for the same purpose. When you purchase a share within the mutual fund, you've got a little stake altogether investments included therein fund. Hence, by owning it, the investor participates in gains or losses of all the businesses within the fund. 

A Mutual Fund is an Investment Fund where it pools money from many investors to invest in securities. Most of the time Mutual Funds are Actively Managed Funds which means an individual Fund Manager or a group of them proactively make decisions for the betterment of the investors.

A good Actively Managed Multi-Cap Mutual Fund is a very good option for having a very well-diversified portfolio as these kinds of Mutual Funds invest in stocks from different market capitalization, and are vetted by experts.

Investing in Actively Managed Mutual Funds is a lot less risky than investing in individual securities as Mutual Funds give two of the most important safety nets – “DIVERSIFICATION” and “RISK SPREAD”. Most of the retail investors who do not want to learn the tedious craft of making their own portfolio goes for these kinds of Mutual Funds.

But as these kinds of funds are actively managed by a Fund Manager and a team behind him, they are generally expensive in terms of Fees or Expense Ratio.

Working of the Mutual Fund

A Mutual fund is a professionally-managed investment scheme, usually this type of scheme run by an asset management company that brings together a group of individuals and invests their money in stocks, bonds, and other securities. 

A mutual fund hires fund managers to invest the money that investors have contributed. The Fund managers use that fund smartly. It will divide the funds into many parts and then invest in different types of stocks, Bonds, and other securities. 

The Fund manager invests the time and knowledge to grow the fund he has got from the investors and then they get there salary or commission. The mutual fund chargers the fees from the investors and from those fees they distribute among the fund managers, Electricity chargers, maintenance, other chargers. 

Let's Know, Who Should Invest in Index Funds?

If you want a passive, low risk, low expense, investment vehicle and you do not have time or want to follow up on your investment and you want a hands-free investment experience then you should invest in an Index Fund.

The inherit ‘Fire and Forget’ nature of Index Funds makes it an excellent choice for passive investors. Once you are invested in an Index Fund, you do not need to follow your investment daily because the return of the fund will be inline with the Index the fund is imitating.

Index Fund Investing is one of the best ways to dip your feet in the equity market if you are a novice investor.

If your goal is to earn a better return than just what the Index is providing then Index Fund Investing is not for you. If you are a seasoned investor in the equity market then you might find better returns in other kinds of investment vehicles. If your investment horizon is short (less than 5 years) then Index Fund Investing is not for you. If your goal is to save taxes then Index Fund Investing is not for you.

Let's Know, Who Should Invest in Mutual Funds?

If your goal is to generate better returns than the Index and your risk capacity is higher than the average retail investor and you can afford the Expense Ratio associated with Actively Managed Mutual Fund and if you are a seasoned investor who can spare time to track their investment on a timely manner then Mutual Fund Investing is for you.

If you cannot afford the time and you do not know how to properly research and analyze Mutual Funds then Mutual Fund Investing is not for you. Just like stock selection takes time and the selector needs to have a good grasp on Fundamental analysis, the same goes for Mutual Funds.

Mutual Fund provides a path for wealth generation only if the investor is a seasoned one. Risk in Mutual Fund can be similar to that of equities, debt, or commodity as Mutual Funds are market-linked products.

But if you want to use your investments as a tax relief instrument then Mutual Funds provide an excellent way to do that.

Under Section 80C of the Income Tax Act of 1961, an individual can save up to Rs. 1,50,000/- or Rs. 1.5 Lakh. If you invest in ELSS or Equity Linked Savings Scheme Funds you can take advantage of this clause.

Let's Know, What is the difference between in Index Fund vs Mutual Fund?

Expense Ratio -The very first difference that we discussed above is the Expense Ratio. From the earlier examples, we can see that the Expense Ratio plays a major role when selecting a fund.

Index Funds are generally passively managed funds which mean there is no fund manager behind the fund taking investment decisions, that is why Index Funds tends to have a much Lower Expense Ratio compared to Actively Managed Mutual Funds.

Investment Style – Index Funds are mainly used by investors to invest in an Index specific portfolio. Whereas Mutual Fund Investment can be Thematic, Sectorial, Market Capitalisation Specific, Tax Relief, or some time Fund Manager Specific (Investors sometimes invest in a fund just because it is managed by a specific individual).

Active or Passive – For a Passive Investor Index Fund can be a great choice. The investor doesn’t need to look up how his investment is doing on a weekly or monthly basis (watching your investments daily causes panic and nothing more). 

An Index Fund will perform as good as the underlying Index does itself. But in the case of Actively Managed Mutual Funds, an Investor needs to review his investments at least on a monthly basis.

If the fund you have selected is underperforming for at least 2 quarters or 6 months compared to its category average then we suggest you need to revisit the drawing board.

The Objective of The Fund – The goal of an Index Fund is completely different from a Mutual Fund.

An Index Fund aims to give its Investor the exact same return the underlying Index provide minus the Fee or the expense of the Fund. 

Whereas an Actively Managed Mutual Fund aims is to beat the benchmark Index it compares itself to as well as its category average.

Relative Safety – Though investing in the stock market is a risky business and you should always consult a certified financial expert before making any investment decision, Index Funds are generally considered safe compared to Actively Managed Mutual Funds.

By aiming for similar returns as the benchmark Indicies, Index Funds takes less risk so the money invested in Index Funds is safe compared to Mutual Funds. In an Actively Managed Mutual Fund, the Fund Manager might take higher risks to generate better returns.