Index Funds, Explained: The Simplest Way to Start Investing

If investing feels intimidating, index funds are the easiest place to start. You don't need to pick stocks, follow the news or pay a pro to manage your money.

What an index fund is

An index fund holds every company in a market index, such as the S&P 500 (about 500 of the biggest U.S. companies). Buying one share of the fund gives you a small piece of all of them.

Why people love them

• Instant diversification: one bad company barely moves your balance.
• Low fees: many broad index funds charge only a few cents a year for every $100 invested.
• Strong track record: over long periods, most actively managed funds fail to beat their index after fees.

How to buy your first one

• Open an account at a major brokerage, or use your workplace retirement plan.
• Search for a broad "total market" or "S&P 500" index fund or ETF.
• Check the expense ratio. Lower is better.
• Set up an automatic monthly contribution.

The one rule that matters

Index investing works best when you leave it alone. Markets will drop sometimes, and that's normal. People who keep investing through the dips usually come out ahead.

Index funds in retirement

Index funds aren't just for young people. Many retirees keep part of their savings in broad index funds so their money can keep growing and keep up with rising prices over a retirement that may last 20 or 30 years.

Balance growth and safety

As you get older, many people shift toward a mix that includes more bonds or cash for money they'll need in the next few years, and keep stock index funds for longer-term money. A "balanced" or "target-date" index fund does this mixing for you.

Keep it simple

You don't need a complicated portfolio. One or two broad, low-cost funds, reviewed once a year, work well for many retirees. If you're unsure, a fee-only financial planner can help you choose a mix that fits your needs.