Key to Open

Keys to the Investment Vault: The Case for Index Funds

Key to Open

Investing is not as complicated as portrayed by Wall Street types or the press. Most people can learn the basic best practice strategies of investing and asset allocation in a matter of days through a good investment education program led by an investment advisor who serves as a fiduciary.

It is possible to be in the upper echelons of long term stock market investors with smart investment training. This statement is based upon a wealth of academic studies on investing including analysis performed by Nobel Laureates and careful, impartial consideration of evidence-based investment returns.

The typical Index fund holds a lot of stocks in its portfolio. An index is set up to capture and copy the performance of an entire financial market or a particular market sector. Most people think of index funds as investing just in businesses within the stock market. However, there are index funds that hold other asset classes like bonds and real estate.

When you invest, it is important not to put all of your investment eggs in one basket. By investing in index funds, you own several baskets that become part of one much larger portfolio basket. This approach greatly reduces the risk of investing because you buy several asset classes instead of just one asset class i.e., you may buy small company stocks, international stocks, real estate, emerging companies, and possibly bonds rather than just one individual company stock or bond. In addition, no one has a crystal ball to predict the economic future of our country or the world. Therefore, by dividing your investments in several places you mitigate the possible risks in the economy that might lie ahead.

Index funds also reduce the risk of manager selection because the funds are basically managed mechanically based on pre-set rules of construction. Because fund managers are not spending time trading your money in and out of the market, the expenses for these funds are also generally low. You want low expenses. This is a very good thing and incredibly important to your long term financial success.

The main risk left is what is called market risk. This means that the stock, bond, and other financial markets sometimes have a mind of their own—they can go up or down with no warning. However, you get a lot of diversification with properly allocated index funds. For example, one stock goes up another stock goes down and one might stay close to the same value in your index fund. This means you typically retain less exposure to the misfortunes of individual companies than you would if you invested in individual stocks and bonds.

Index funds are the clear winner in the investment world. They truly are metaphorically "The Keys to the Investment Vault." I rest my case.

To learn more about the importance of working with a fiduciary, please see this article.