Investing 101: An introduction to index funds and passive investing
I was inspired to write this article because of two separate but identical conversations I recently had with friends. They went something like this:
Friend: What do you invest in?
Me: I do passive investing. You know — investing in index funds and ETFs. ETFs are kind of like index funds.
Friend: I see… [Blank stare.] Me: Do you know what an index fund is?
Friend: Nope.
Me: It’s a fund that invests in all or most of the stocks of a stock market index and gets a return which is equal to the index return minus a small fee.
Friend: I see… [Blank stare.] Me: Do you know what a stock market index is?
Friend: Nope.
Me: I see….
With active investing, an investor tries to pick stocks that will outperform other stocks. With passive investing (also known as index investing or “investing in index funds”) an investor simply uses mutual funds to buy all of the stocks in the market. The basic idea is that with greater diversification and lower costs, a passive investor will generally do better than someone who buys actively-managed mutual funds.
Let’s cover some of the basic facts that my friends need to learn in order to understand passive investing.
What is a Stock Market Index?
A stock market index (or just “index”) is a number that refers to the relative value of a group of stocks. As the stocks in this group change value, the index also changes value.
For example, an index might have a value of 1000 points at the beginning of the day. If the stocks in that index rise in value by 1% during the day then the index will be at 1010 points at the end of the day. Does this sounds familiar?
The Dow Jones Industrial Average (commonly just called “the Dow”) and the S&P 500 are two examples of stock market indexes. Most people (including my friends) who think they don’t know what an index is, in fact probably have a reasonably good idea.
What are Index Funds?
An index fund is a mutual fund that invests in the same stocks that are contained in a stock index, in the same proportion as in the stock index.
Imagine a stock index — let’s call it the ABC Index — that contains two stocks: IBM and Google. Let’s say that the ABC Index is currently made up of 60% Google and 40% IBM. If an index fund is based on the ABC Index, then it too will also invest in Google and IBM — 60% of the index fund will be Google and 40% will be IBM.
These percentages will change as the values of Google and IBM change. If the price of Google stock increases and the price of IBM stock decreases then the index will change so that maybe 65% will be Google and only 35% will be IBM.
The two main arguments in favor of index funds (and passive investing) are:
- Most managed mutual funds can’t beat their index over any length of time, and it is impossible to predict which ones will beat the index in any given time period.
- The significantly lower costs of index funds will ensure that, on average, index fund investors will have better returns than their managed mutual fund counterparts.
If you assume that the average mutual fund will earn the same return as the stock market index minus fees, then an index fund will outperform the average mutual fund because it has lower fees.
As an example, if a managed fund XYZ earns the same 8% return as the S&P 500 in 2009 but it charges a 1% fee, then the XYZ return will be 7%. If the ABC Index fund is based on the S&P 500 and only charges a 0.25% fee then the ABC Index fund return will be 7.75% which is three-quarters of a percent higher than the average managed mutual fund.
Over time, that difference is significant. After 25 years, the investor with the lower fees will have 19% more money invested than the investor paying the higher fees.
Passive Investing is Easy
If you want to get into passive investing, then I suggest doing some more reading on the topic, as well on possible asset allocations. Some books you might consider include:
- The Little Book of Common Sense Investing by John Bogle
- The Four Pillars of Investing by William Bernstein
- The Smartest Investment Book You’ll Ever Read by Daniel Solin
Regardless of whether you believe that index funds are better than managed funds, it’s certain that passive investing is much easier. You don’t have to analyze mutual funds or stocks — just pick some basic index funds and away you go!
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There are 59 comments to "Investing 101: An introduction to index funds and passive investing".
They may not be as sexy as stockpicking, but there’s a reason why so many smart, informed people are fans of them. And while many argue that aiming to “match” the market is aiming too low, you can still mix and match your allocation to different indices to outperform the S&P 500, or whatever other benchmark you have.
I own all my index funds through Vanguard, the King of Index funds.
I love index funds. A substantial portion of my retirement account is in index funds. And, while I have a mix of other things, the index funds I have are the anchor.
Okay, I’m going to ask the true “dummy” question here … where the heck does one start looking to find/learn about/ invest in these magical index funds?
A primer on that would be most helpful to someone like me.
@Christy – those 3 books mentioned in the post are probably a good way to get started, and I personally recommend “The Bogleheads Guide to Investing”. It’s the first book on “finance” that I’ve ever read…and I actually enjoyed it! Still a heck of a lot I don’t know, but I think it’s a very good start.
I am going to second and emphasize what Writer’s Coin has said about matching the market. People choose managed funds because they want to do better than the average investor while people choose index funds because they want to accept what the market has given them. In a managed fund’s quest to beat the market, many of them do worse, and there is no way in knowing which ones will do better before the fact. With index funds, you know you’re going to do just as well as the markets (minus tiny fees).
@Christy:
I’m going to do a shameless plug here for http://www.bogleheads.org/forum (I hope you don’t mind JD), as a great beginning resource to learn more about indexing and investing in general (though the majority of posters there are indexers and don’t advocate stock picking at all.) A good start is also one of the books that JD (or his guest poster rather) has already suggested. On the forum you will also find a list of a TON of other books.
Hope this helps! =)
The books listed are good references. Essentially, if you get low enough fees (under 0.5% of assets) you are pretty much going to be in an index fund.
My favorite ETFs, which are like index funds that you trade through a brokerage account (beware frequent trading though or the brokerage costs will get you) are:
VTI – Vanguard Total Stock Market
VEU – Vanguard non-US Stock Market
TIP – Ishares inflation-protected treasury
Buy 33% of each for a Margaritaville portfolio. Rebalance once a year. I make my IRA contributions once a year, and buy appropriate numbers of shares to keep the account basically in balance.
It wasn’t emphasized in this article, which focused on the funds themselves, but rebalancing is essential to lowering your risk/return ratio. The Bernstein book will especially emphasize that.
Index and managed funds both have pros and cons. What if you want to invest in companies that are developing alternative energy technologies. Is there an index for that?? Is it an area of investment where research and info matter more?
But for run of the mill investing, the low expenses are hard to beat. Also, don’t ignore the ETF’s that act as index funds, sometimes they have even lower expenses than the open end funds.
Christy go to Vanguard, and use their education tools. It is a good start.
FYI – The #1 impact on ROI is expenses, the # 2 impact on ROI is asset allocation
Be aware that there are many doubters out there. In particular, you will see a lot of numbers about how investing in equities is better than sliced bread, white bread, or any other kind of bread.
However, times like these — when the market has declined substantially — are much better times to buy equities. If you are a sucker like me, and most of your investment was made at twice this price, you may not break even on your money for a decade (not an exaggeration — the last time the market was that high was in 2001, again at the peak).
Equities are not a bank, and your short term and long term needs are going to be both hard to predict and vary substantially on the value (in the sense of worth, not price) when you got in.
Index Funds have been what I’ve been hearing more about lately. Better go check them out!
I’ll echo the plug for http://www.bogleheads.org/forum. There’s a lot of people there who can help you translate the theory to your real world scenario. You can post what your situation is in detail (I have a 401k with these funds, my wife has a 403b with these funds…) and they’ll divide it up in way that makes the most sense including tax efficiency.
I am also a big believer in ETFs and index funds. JD, a follow up article could be the differences between these two types of investments. For those who are buying in bigger amounts or holding for a long time, ETFs are most cost effective, since most of the costs are in the buying and selling commissions. In extreme cases, the advantage of one or the other is obvious but figuring the best option in borderline cases is complicated.
Also, comment #5’s question about alternative energy funds makes a good point about how even index funds can result in poor diversification. Yes, there are these types of funds, but investing in this is much different than JDs example of an S and P 500 fund. There are index funds and ETFs for so many sectors and sub sectors these days. While these funds may still have low costs (since they are passively managed), they may be way too focused and expose the money to a high level of risk. Of course, they can also have a place in a portfolio, but don’t assume that all index funds mean low risk.
Thanks for this post! I would love to see more posts like this, and especially posts on asset allocation. I’m good at saving, good about investing (as in, I’m good at “Investing 101”), but I would like to be better at asset allocation….I’ll check out the books you suggest.
I am all for index funds, they charge less and most of the time outperform managed shares. I believe that a well diversified portfolio of index funds will produce a good return in the long term.
I would also look into ETNs or “Exchange Traded Notes.” I wanted to purchase a broad commodities type index fund a couple of years ago (that tracks oil, gold, etc.) and I found the iPath Dow Jones-AIG Commodity Idx Fund(DJP). It’s dropped in value recently but I think it’s a nice option to look at in addition to Vanguard index funds (which are no brainers!).
http://www.scordo.com/blog/blog – a practical living blog
This is quite a good strategy for investing. Today all the indexes are low and it’s time to jump in both feets. I’m rebuilding my portfolio betting on indexes going up.
Hey ! nice initiative this “course” 🙂
Can we have monthly a course about stocks/financial stuff ?
It will be great.
Thanks for the breakdown, I have done very little investing myself and it is becoming more prevalent in my near future.
Great article. I love index funds and ETFs. Passive investing is the best way for normal people to make a good return on their investments. Too many people try to speculate in the stock market and they are just not prepared to take the time and energy that is NECESSARY to earn above-average returns.
I use Vanguard as well because their fees are so low. As pointed out in the post, a small difference in the fees associated with the asset make a huge difference in the long run.
Good post ABC
http://behaveyourfinance.com/
index fund is a good way to invest in the stock market. very few people in the world can beat the market as a whole over the long run. warren buffet is one of these.
having say that my investment in vanguard s&p 500 is up a paltry 2.5% in 10 years.
I’m a complete skeptic when it comes to stocks.
They are gambling & speculating on performance.
Index, ETF, Personal pick, Doesn’t matter.
Too many people ‘invest’ in the stock market (Just like the 20’s again), especially with a “Buy and Hold” strategy. (when do you sell?)
While 15% y/y returns appear nice, 40% loss is appalling. I’ll take a 3-4% constant every year instead.
Don’t misunderstand me; I’m learning to be a day trader. I love speculation. Purchasing anything other then a dividend stock is speculation pure and simple.
I quickly Googled “etf vs index fund” and found this link:
http://www.altruistfa.com/etfs.htm
It does a pretty good job of explaining ETFs. The only thing that confused me was when at the very beginning of the article, they stated “(…) they are basically just index mutual funds which are bought and sold as stocks.”
That made one of my eyebrows rise, because I’m under the impression that with every investment; whether you’re talking about an actively managed mutual fund, an index fund, an EFT, or anything else; when you get down to the core of what is being traded, you’re dealing in stocks. I suppose what they’re saying is that index funds could be trading things other than stocks, such as commodities.
Not quite. They are saying that EFTs ‘trade’ like stocks. Meaning that you can buy and sell them throughout the day at prices that vary, depending upon the demand for them during that day. Unlike ETFs (or stocks), Mutual Funds trade at the END of the trading day and the price (NAV (Net Asset Value)) is set based upon the closing price of ALL the stocks in that Mutual Fund. The difference here being WHEN the trades are made and HOW they are priced. That’s what they mean when they say “ETFs trades like stocks” instead of trading like Mutual Funds. It has nothing to do with what asset class is IN the ETF.
@Roscoe:
The problem with not taking any risk, is that you can’t get any award. Guess how much return your 3-4% gives you after inflation is taken into account each year? A big whopping 0. Some years you might even lose money (after accounting for inflation).
Sure you can lose in the market too, but history has shown over long periods (> 20yrs) of time the stock market will outperform guaranteed investments significantly.
You woulnd’t happen to be a broker, would you Kyle? 😉
Kyle:
I completely agree, but
3% – inflation > -40% – inflation.
(You can also hand pick the 20y time line that shows loss in the stocks.)
Most years, when the stocks are on the rise, it CAN be profitable.
After this downturn, retirement accounts are down 20-40%. At 10% they should have cut their losses, but MOST people believe “Buy and Hold”.
I conjecture that people look at stocks as an investment. I look at them as a speculation & gamble.
*I do like the right gambling game*
I’m also “fiscally conservative” as 90% of my cash is in T-Bills. (Then again I’m broke!)
Warren Buffett highly recommends index funds (over etfs) for the average investor – and Vanguard is hard to beat because of it’s fees.
@Stray Cat. Be careful. This is a global stock decline which means there are global effects – think of dropping several stones close together. The waves from one will have an effect on another.
While nobody knows for sure, general thought from the academics is that we’re just past the end of the beginning. Of course, they could be wrong. Nobody really knows. This is how I look at it though:
When the market turns around we’ll know. People will start feeling good again, the Big 3 wont be up in he air, there will not be a credit crunch.
I’d say be careful. “Jumping in” might hurt. Remember it takes a 100% increase to make up for a 50% decline.
Great post. I have recently invested in an index fund and have been trying to learn more about the process and ups and downs of investment in all areas.
Thanks, I actually printed this article out so I can have it for a reference with index funds. I like the basic descriptions for those like myself who are new to investing.
I think one things should be made clear, Index funds do not promise any specific return.
When investing your own money, you need to be involved in the whole process. My money is treated like little employees, they are all out there in real-estate, invested in small business start-ups, my education, stocks, etc…and I expect that they earn. If not, I transfer them elsewhere. Passive investing may sound like a good idea, but will come with pitfalls…if you pick the wrong index fund and it only goes up a few % each year, then with inflation/taxes/fees you probably are better off just putting your money in a high-yield savings account.
Investing is a great idea which all should take part in, passive may work for some, but the rate of growth plus the individual stock opportunities out there because of the overall market fall makes other options more viable.
http://www.bullsbattlebears.com
@Roscoe
Buying stocks means you’re investing in a business. The expected return is higher in stocks than in bonds/cash. This downturn has been horrible but it’s a risk premium showing up. Do not accept the premium and not the risk of stocks. You mentioned the 1920’s, and while it did take a decade or two to come back, those that stuck with it have been rewarded tremendously. This is also assuming you’ve been in 100% stocks the entire time. You’re right in that retirement accounts have taken beatings. But if a portfolio for someone that is going to retire the next year fell 40%, that portfolio was too risky to begin with. There are withdrawal strategies (such as drawing from bonds, drawing from dividends) that help soften the blow of such a downturn (a portfolio down about 20-25% for someone starting retirement would have been more appropriate IMO). Don’t forget people have social security and pensions as well. -40% minus inflation is just a wrong way to look at it. You’ve said that you’re 90% in TBills (I’m not sure if you’re saying your entire porfolio is?), so its understandable that you’re risk averse (how do you like those TBill yields btw?)
@Dustin
Just to clarify the statement that confused you regarding funds vs ETFs. A fund’s NAV is set once per day (usually a couple hours after the closing bell) while ETFs can be traded like stocks in the sense that they have prices that fluctuate throughout the day and can buy/sell at specific prices at any time while the market is open.
@Rubin
You mention being up 2.5% over 10 years with your SP500 fund. Keep in mind that that still beats a majority of managed funds and there was no way in knowing which funds 10 years ago would have outperformed the index. (I realize you probably already understand this, but this is for those people that see 2.5% and say “Psh I want more!”)
People need to keep in mind that it’s not just about stocks. It’s about having a portfolio that fits their risk tolerances and to *rebalance* (that should answer the question of “when to sell?”)
Edit:
I’ll second Aman’s comment about index funds not promising any specific returns (no funds can anyways). But its foundation is based on costs. By cutting costs to the bone, over the long term you’re going to have a *much* better chance of having more money in your pocket.
Another thing about index funds is tax-efficiency (matters only if you have these in a taxable account, i.e. non-401k/IRA). Almost no turnover means no capital gains to be taxed and more money to be invested in the long run.
It’s great to see so much enthusiasm for investing on a PF blog. Especially now, when so many people are scared and running away from stocks and index funds.
The yield on the treasury-bill is around 4% right now (lower as the treasury prints more money). As for risk aversion, yes very risk adverse as my net portfolio is VERY low (<10k).
I agree that if you took a -40%, your were in to high of risk to begin with.
As for ownership in a company, unless you have lots of $, or control the majority of stocks, you still don’t really have a say in the companies doings.
If you don’t have a say(realistically), it doesn’t pay a dividend, and your not actively trading (Buy and hold): then there are better investments.
This is just my opinion! I would buy & hold dividend paying stocks!
As for the need for risk, I’ve opened a brokerage account, and i’m learning to trade. Until I can turn a 100% return on paper there isn’t a point in loosing money.
90% ultra-tight-wad-portfolio / 10% High-risk personally-managed stock trading. (Not yet, but what I’m aiming for.)
JD: Great guest post. I would love to see more from ABC’s.
ABC’s: I just found your site this week on another blog and I’m definitely learning. Thanks!
I agree that diversifying is important, but index funds are a good place to start making money in the market. I mean, you’re never going to have a monumental gain that you will may have with an individual stock, but chances are you will have a steady gain throughout most of the life of your investment.
I’ll dissent here. In normal times, index funds were a safe way to average out a good return over several years. These are not normal times.
Anyone with money in stocks right now (or long-term T-bills for that matter) is playing with fire.
Put it on the sidelines until the turmoil is worked out. CDs or short treasury funds or MM funds. Deflation and recession will cause stocks to drop another 20% from here before bottom. We could be at the beginning of a lost decade (or two) for stocks. Or the Masters of the Economy could overcompensate and dump us into a hyper inflationary mess.
If you’re not an expert, which it sounds like none of you are, stay the heck away from stocks and bonds until the markets stabilize.
I’ll reference the usual suspects to back up my views:
http://calculatedrisk.blogspot.com
http://globaleconomicanalysis.blogspot.com
http://market-ticker.denninger.net/
http://blogs.cfr.org/setser/
http://krugman.blogs.nytimes.com/
there are lots of alternate views out there. There is no harm protecting your capital if you are unsure of market conditions. Throwing money into an index fund is counting on the common wisdom pricing the market correctly…it hasn’t done so well recently.
The odds are worse than most people realize. The majority of stocks underperform the market. I believe the ratio is about 64% of stocks underperform large index funds. That means that the odds of underperforming the market with a small selection of equities (that an individual investor would probably have) are rather high.
This doesn’t mean that I’m against equities. The above statistic also shows that stocks that outperform frequently do so by a large margin. I’m actually 100% individual stocks right now. My point is just that research is incredibly important when working with equities. It amazes me how many people try to apply macroeconomic arguments, like claiming that the industry will do well, when picking individual stocks. Another example is timing: timing a market is incredibly difficult, but timing individual stocks (over a timeframe of years) is very fruitful. I would never advise anyone who wants to buy and hold forever to invest in equities.
@Brint
Speak for yourself before generalizing on how others are fairing in the stock game. If you feel you are an expert, kudos, but a lot of us that post and comment are doing fairly well and know more than you might want to believe.
And what advise are you giving when saying that its not a time to play the market. If you find downtrends, ride the short train downwards OR if your long, buy the stock..some of us are making an income. There is no playing with fire involved when we can pick up GM for 2.99/share and sell it for almost double or hold onto Exxon for a day and walk away with a few hundred bucks in our pocket.
There are books, sites, people out there making money. There is always an opportunity to capitalize in the market if your willing to look.
Going back to the index topic, some of the biggest ones (index stocks) on the market have taken hits just like all other stocks. Explain to those people that held index funds and called themselves “passive” back in August…
look at the stats on the funds from the last few months and tell me how these have done better than the investor that trade individual stocks.
I dont care if people are looking to find a low risk/low reward stock or are riding a company on the verge of going bankrupt. At the end of the day, its YOUR money and you need to be attentive to the direction of the market.
People can claim how putting it in a Index and sitting back and watching it grow is amazing and only praise the good times. However, everything related to the stock market has a value of risk associated with it.
http://www.bullsbattlebears.com
@Aman:
I think you’ve hit upon a fundamental topic; people “invest” in the stock market without knowing anything about it.
Embracing Risk & Responsibility is NOT in most peoples interests: How many times do you here “It’s not my fault!” and that makes it O.K.
As a side note: Why is personal finance excluded from High School? (Conspiracy to keep you down! J/K)
(Here’s a rather interesting Stock Blog: http://evilspeculator.com/)
I’m a big fan of index funds, but they are not a retirement panacea. The thousands of retirees out there who saw their retirement accounts lose 40% in the last year are a testament to that. True diversification requires more than just stock investing: remember that index funds only go up when the entire economy goes up – and we have happened to enjoy a 25 year joyride of amazing overall market returns. Index investors between 1930-1980 earned PALTRY returns that much of the time did not even beat inflation.
True diversification means asset diversification. My favorites: split your retirement between (1) paying off your house and perhaps owning income-generating properties, (2) index investing, (3) a small percentage of value-investing funds, (4) conservative bonds with near-guaranteed yields, (5) Various other assets (like collectibles, gold, etc….these earned 6-50% annual returns between 1930-1970…WAY better than index funds).
This would be a “passive” strategy. I’m not opposed to active trading as a small percentage of retirement income generation….e.g. Spending $500 of “extra retirement cash” on buying GM at $2.99 would be a relatively low-risk, high reward proposition right now….just be informed and don’t bet your future on it!
Why do all discussions about index funds center around S&P 500 (or, worse, DJIA)? Those are American indexes, and thereby exclude 95% of the global population. For that reason they seem atypical, if not cherry picked.
I know the markets of the second and third largest economies on the planet (Japan & Germany) have not performed nearly as well, and have had significant periods of stagnation.
It seems, with increased globalization, that international markets would give more accurate precedence regarding long-term market trends.
What are the average returns for a global stock market index (by definition the most ‘neutral’ stock index) over the past century?
People keep referencing “Vanguard index funds” but I can’t figure out what these are? Can anyone name them for me? Any specific recommendations? Thanks!
It sounds like there’s a lot of interest in future coverage about index funds and other investment topics. I’ll try to cover these more in 2009. I think it would be educational for me, as well as others. Sound good?
Did you mean 2019 or am I reading a REALLY old post?
Active vs Passive is one of the fundmental decisons to make after defining an appropriate asset allocation. Would you rather pay a fund manager 0.5% to 1% of returns to try and beat “the market” or would you rather accept the retruns of “the market” and minimize your costs? Vanguard Total Stock Market ETF charges a rock bottom 0.07% expense ratio. “The market” is a market capitalization weighted index. For example the top 5 holdings of the Vanguard total stock index are: ExxonMobil 3.22%, General Electric 2.0%, Microsoft 1.76%, Proctor & Gamble 1.67%, Johnson & Johnson 1.53%. Exxon price per share x # shares = 3.22% of the US stock market value. a cap-weighted index works because it takes the guesswork out of trying to pick winners. If GE has a great year they will constitute a greater proportion of the index.
A common arguement for active mutual funds states “I’ll just do my research and pick the best performing funds and beat the market return”. Past performance is no guarantee of future performance. A recent study concluded that “Over five years ending June 2008, S&P 500 outperformed 68.6%
of actively managed large cap funds”. The conclusions are similar for international indexes.
Focus on the things you can control: asset allocation and investment costs.
For anyone in the Netherlands who is interested in buying index funds: as far as I know the easiest and cheapest way to do that is through SNS Fundcoach ( http://www.snsfundcoach.nl ). You can buy several of the Vanguard funds there. (I’m not an employee of Vanguard or SNS 😉 )
J.D.: it seems people are interested in the practicalities of buying index funds (more like a step-by-step guide of actually buying them).
Just a quick point or two:
1. While most passive investing utilizes index funds, ‘indexes’ and ‘passive’ are not synonymous — many people employ a relatively active trading strategy using ETFs or index funds.
2. I, as many others have done, heartily recommend the Bogleheads Board at:
http://www.bogleheads.org/forum/index.php
for terrific information, and to get any questions answered regarding *both* of the separate topics of passive investing and indexes.
The definition being given to “Passive Investing” in the words above is the most common one. I do no think it is a good one. I believe that the common definition mixes two concepts in a dangerously misleading way.
The indexing concept is wonderful. Indexing permits the investor to achieve a high level of diversification at low cost. That’s the answer for the vast majority of middle-class investors. So I share the blog author’s enthusiasm for the indexing concept.
I do not think that the “passive” part of Passive Investing is at all a good idea, however. The thing that you are being passive about is your asset allocation — passive investors do not change their stock allocations even when prices go to insanely dangerous levels. This is the single worst mistake that an investor can make.
I endorse a reformed approach to indexing, one in which the investor changes his stock allocation in response to dramatic price changes (he goes with a lower stock allocation when prices are insanely high and the long-term value proposition of owning stock is poor). I call this approach Valuation-Informed Indexing. This is a non-Passive approach to indexing.
Rob
Hm, this whole topic…
I see…(blank stare)
I tend to invest in things that don’t require a separate vocabulary.
@Sara:
Vanguard refers the mutual fund company. Index is the type of fund (as discusses in length in these comments.)
As for recommendations, it depends on what type of fund you want:
U.S. Stocks – VTSMX (Vanguard Total Stock Market Index Fund)
International Stocks – VGTSX (Vanguard Total International Stock Index Fund)
Bonds – VBMFX (Vanguard Total Bond Market Index Fund)
And there are many others.
@JD
I originally found this site from a list I got from googling “most popular finance blogs.” There must be such a huge reader base that a good portion probably doesn’t know too much about investing (from reading the comments), but I bet they sure know a lot about frugality (whole separate topic)! I think it’d be a good idea.
@Peggy
It’s time to expand that vocabulary.
Index fund are such a compelling story for the average investor that I wonder why they are not even more popular. I guess the only reason must be the higher sales commission brokers get when they put their clients’ money into actively managed funds which charge much higher fees.
@Sara: http://www.vanguard.com/ is a Mutual Fund family (big company with lots of different funds) that makes a point of low fees so you keep more of what they earn.
I guess my take on what to invest in depends on the time/expertise you have. If you had 1 hour a year you wanted to spend on investing, I’d say call a broker and set an appointment. Go for buy ‘n’ hold ‘n’ hope.
If you want to spend 10 hours a year, then you can get into ETFs, and spend your time picking areas you like and rebalancing yearly.
If you want to spend 5-10 hours a week, look for good individual stocks and actively manage them, including using stop orders to protect your money. This is often trading instead of investing. More than 20 hours a week, and you ought to be running your own business instead.
The first two would count as passive too, as that means not active, and you won’t be trying to get in and out based on short-term movements in the markets.
Recently I learned about Mr. Bennett, who is quoted above saying: “I endorse a reformed approach to indexing…”
The internet has no requirement that people giving advice have any proven credentials or capability, and thus we find Mr. Bennett acting as if he is an authority, when the reality is that a short visit to listen in on some of the fifty or so audio files on his website will quickly establish him to be a crank with an old and long rusted axe to grind. Be careful of the advice you listen to out there!
we find Mr. Bennett acting as if he is an authority
That’s not so.
What I know about investing, I learned from my participation with my fellow community members over the first seven years of The Great Safe Withdrawal Rate Debate. I have not studied investing in school. I have not run any big funds. The only “expertise” that I possess is as a journalist. I make an effort to uncover realities and to report on them. What I have done different is to apply a reporters’ skills to the field of investing in the way that many before me have applied them to other fields of human endeavor.
My view is that there is no such thing as “expertise” in InvestoWorld today. Our understanding of the subject matter is too primitive for anyone to be thought of as an “expert” in the way in which we use the word in other areas of life endeavor. I have learned a great deal from many “experts” and I am grateful for what I have learned. But I think that far too many work to give the impression that they know more than they really do. I think that hurts them and the people whom they advise.
The conventional wisdom today is that Passive Investing (sticking to the same stock allocation even when prices change dramatically) makes sense. If saying that evidences “expertise,” I want none of it. The idea does not even make sense. How could price not affect the long-term value proposition?
We all need to get back to the basics if we want to figure out how stock investing really works. We need to stop worrying about who is an expert and who isn’t and direct more effort to figuring out what truly makes sense. Expertise that means something will follow.
I certainly do not describe myself as an “expert.” I say that the “experts” have let us down. I am asking all “experts” to take a step back and reconsider their fundamental premises.
Rob
Mr. Bennett proves once again (as if that were needed) what an internet crank he is with his assertion:
“My view is that there is no such thing as “expertise” in InvestoWorld today.”
The idea that “Conventional experts” and “traditional education” are somehow beyond useless, and actually corrupting to a search for truth is a common theme for most cranks. Now, I don’t recommend anyone simply follow orthodoxy blindly, but neither do I recommend throwing over logic, common sense, education, reason, and sanity to become a follower of Hocomania. Thankfully, besides Mr. Bennett himself there appears to be only on other adherent to the cult, but no one listens to him either, so not to worry too much.
I will provide two links and allow others to decide for themselves if this character has anything to say worth listening to, for other than comedic value.
How to spot a crank:
http://en.wikipedia.org/wiki/Crank_(person)
From Mr. Bennett’s Website:
http://s162532268.onlinehome.us/Sewer/viewtopic.php?t=1010&sid=7c5c5c08142e18df96f26ccebe69f10b
Your comments are emotional in nature, Occam.
The biggest problem with Passive Investing is that it blinds us to the emotional aspects of the investing project. It is the emotional aspects that almost always do us in in the long run. My view is that we need to direct more effort to understanding why we become so intensely emotionally attached to our favorite investing strategies.
Rob
“The biggest problem with Passive Investing…”
Still carrying that ax to grind, eh, Hocus?
Still carrying that ax to grind, eh, Hocus?
Yes indeed, James.
I believe that the biggest reason why we have suffered this economic crisis is that millions of people who have long had doubts about the Passive Investing concept were cowed into silence during the time when Passive was all the rage. Had those of us in the “opposition party” spoken out more frequently and more strongly, I don’t think that valuations ever would have gone to such insane levels.
There are lots of smart and good people who think Passive Investing makes all the sense in the world. I think of those people as friends because I have learned so much from so many of them. But all my work is aimed at persuading people not to invest passively (and to instead always change their stock allocations in response to big price changes). I like to think that I am the most severe critic of Passive alive today.
Rob
I have a question about finding suitable index funds. I have a Roth IRA with Fidelity, and after reading about index funds on GRS, I really want to add an index fund to my small portfolio. I currently only have the majority in a target-date retirement fund, with little bits in one stock with personal meaning and two other funds that seemed promising. My overall balance is only about $10k right now, but I plan to contribute the max each year.
My question is- it seems with Fidelity that every index fund I find has a minimum investment of $10k. The only searches I’ve found on Fidelity’s website only show the Fidelity-based offerings, but I suspect there are more I could get there, possibly with lower minimums. Can anyone help me find index funds with a minimum of say $2500 that I can buy through my Fidelity Roth?
I totally agree with you. It’s sad how the system is going down. People are having to scrape and either do two or three jobs. Kids aren’t being raised by their parents anymore as both of them have to work just to survive.
In 1930s Gold was at about $32 an Ounce and you could buy a lot for $32, including 2 piece Mens Suite, 1 month of Groceries and more.
In today’s day, you cannot buy a men’s suite for $32 and barely any groceries for that matter. But! the value of Gold isn’t $32 for 1 ounce in 2014. It’s $1,172.64 which CAN buy you that suit and groceries…
Some food for thought. If you can’t buy 1 ounce of gold, buy 1 gram and start making that your savings account. It doesn’t matter where you start, but start somewhere. I’m happy to help where to get the lowest cost gold around.
Thanks for the great article!