Definition

• Index funds are mutual funds or exchange traded funds (ETF) that hold the same investments in the same proportion as a specific index, such as the S&P 500 or MSCI Emerging Market index.
  
  

Benefits

• Index funds have low expenses compared to actively managed mutual funds. Stock selection for the fund is essentially automatic to match the index and does not require a highly paid investment manager or a team of analysts to maintain. Indexes also do not change component stocks often, so index funds pay less in trading costs.
  
  

Significance

• Investors often use index funds to balance their portfolios among different sectors, regions or asset classes. Portfolio theory investing states it is important to have investments properly allocated in different sectors in order to maximize returns and reduce risk.
  
  

History

• The Vanguard S&P 500 Index Fund, started in 1975, was the first index mutual fund. The SPDR S&P 500 was the first index ETF. It first traded in 1993.
  
  

Effects

• The rapid growth of the number of ETFs since 2000 has broadened the scope and focus of index funds available to investors. ETFs are available that track indexes in such diverse asset classes as commodity prices, junk bonds and individual country stock markets.
  
  

Expert Insight

• In an interview with bankrate.com, John Bogle, the inventor of the index fund, advises: "Rely on simplicity; own American or global businesses in broadly diversified, low-cost funds."