Home » Finance

Indexing for Passive Aggressive Investors

Oct 26, 2007
Let's dispel the notion once and for all that index funds are only for passive investors. Sure, the original index funds tracked the S&P and were meant for investors who either believed you couldn't beat the market or didn't want to try.

Since their beginning, index funds have expanded their breath. You can find a fund which tracks any of the major indices and most industry sectors, such as health care and technology. The first cousin of index funds, Exchange Traded Funds (ETFs), do the same thing-they track indices.

Between index funds and ETFs you can mirror any major index, small index, industry sector, industry sub-sector (i.e., biotech or software), global region or individual country. You can also try to outguess the indices if you want.

For example, you can buy a S&P index fund which weights all 500 stocks equally or one which weights them by market cap, and so on. (Note to investors: make sure you know what you're buying.) Thus far, we've only focused on equity funds but index and exchange traded funds also are available for fixed income securities.

These funds are particularly suited for fixed income investments (Treasury, corporate or muni) because they can buy and sell bonds at much lower spreads than individual investors.

The proliferation of index and exchange traded funds means you can construct an entire portfolio of these funds to meet almost any investment strategy and risk level. A combination of a S&P fund, mid-cap and small cap domestic equity funds, foreign funds and fixed income funds of varying maturities, and a real estate fund would fit many investors objectives for a diversified portfolio with good growth potential and reasonable risk.

A mix of funds with individual securities or using a fund to fill a gap in your portfolio is an equally good idea. For the investor who wants to participate in, for example, biotech or emerging markets, a fund will enable her to achieve diversification in that sector (and the riskier the investment, the more important diversification becomes) with only a small investment.

Index funds can be bought and sold once a day; some ETFs as frequently as every hour. The larger funds are liquid investments and, in many cases, more liquid than their underlying securities (bonds and small cap stocks, for example). Transaction costs are modest, perhaps nothing for a no load fund (subject to certain holding period requirements) and typical stock commissions for an ETF.

So what's the downside? There's a body of academic literature and models which "prove" that a small group of fund mangers can outperform the market, think Peter Lynch and Bill Miller. If you believe this, and I do, or you just want to hedge your bet (I shudder as I write those words because investing is not a bet, it's hard work and serious business), you can mix some actively managed funds in with your index funds and ETFs.

The other issue you have to consider is that index funds/ETFs can take different investment strategies to for the same index. I gave the example above of two S&P 500 funds that are constructed differently. They will perform differently as a result. Structure and performance differences are even more pronounced as you invest in riskier/smaller indices.

Taking biotech, for instance, one fund may broadly diversify, another may invest in the ten largest biotech companies, and a third may take a different investment approach. As a result, their performance will widely differ.

So, again, make sure you understand your fund's approach. You can't tell a book or a fund by its name. Index funds and ETFs have a place in your portfolio; they're no longer just for passive investors.
About the Author
Bill Byrnes is co-founder of MUTUALdecision, top mutual funds , providing investors with data on the top mutual funds, and author of the MUTUALdecision Blog. He's been CEO, chairman and served on the board of directors of several public and private companies. He holds MBA and JD degrees and is a Chartered Financial Analyst with over 30 years experience in the investment industry.
Rating:
Please Rate:
(Average: Not rated)
Views: 196
Print Email Report Share
Article Categories
    • Artists
    • Gambling
    • Humanities
    • Humor
    • Movies
    • Music
    • Photography
    • Tattoos
    • Television
    • Classic Cars
    • Motorcycles
    • Recreational Vehicles
    • SUVs
    • Trucks
    • Vans
    • Branding
    • Business Opportunities
    • Careers and Jobs
    • Corporate
    • Customer Service
    • Direct Mail
    • Entrepreneurship
    • Ethics
    • Financing
    • Franchising
    • Home-Based Business
    • Human Resources
    • Import and Export
    • Leadership
    • Management
    • Market Research
    • Marketing and Advertising
    • Negotiation
    • Network Marketing
    • Networking
    • Organizational
    • Presentation
    • Project Management
    • Public Relations
    • Small Business
    • Strategic Planning
    • Team Building
    • Telemarketing
    • Training
    • Data Recovery
    • Databases
    • Games
    • Hardware
    • Networks
    • Operating Systems
    • Programming
    • Security
    • Software
    • Spyware and Viruses
    • Ask an Expert
    • College and University
    • Home Schooling
    • K-12
    • Languages
    • Online Education
    • Psychology
    • Coffee
    • Cooking
    • Gourmet
    • Recipes
    • Wine and Spirits
    • Acne
    • Aerobics
    • Alternative Medicine
    • Beauty
    • Cancer
    • Cosmetics
    • Depression
    • Diabetes
    • Diseases and Conditions
    • Fitness Equipment
    • Fitness
    • Hair Loss
    • Heart Disease
    • Medicine
    • Men's Health
    • Muscle Building
    • Nutrition
    • Skin Care
    • Supplements and Vitamins
    • Weight Loss
    • Women's Health
    • Yoga
    • Arts and Crafts
    • Babies
    • Collecting
    • Elderly Care
    • Genealogy
    • Hobbies
    • Parenting
    • Pets
    • Pregnancy
    • Woodworking
    • Feng Shui
    • Gardening
    • Home Appliances
    • Home Security
    • Interior Design
    • Landscaping
    • Affiliate Programs
    • Article Marketing
    • Auctions
    • Audio
    • Banner Advertising
    • Blogging
    • Broadband
    • Domain Names
    • E-Books
    • E-Commerce
    • Email Marketing
    • Ezines and Newsletters
    • Forums
    • Internet Marketing
    • Link Popularity
    • Pay-Per-Click
    • Podcasting
    • RSS
    • Search Engine Marketing
    • Search Engine Optimization
    • Security
    • Social Media
    • Spam
    • Video
    • Viral Marketing
    • Web Design
    • Web Development
    • Web Hosting
    • Copyright
    • Cyber Law
    • Intellectual Property
    • National, State, Local
    • Patents
    • Regulatory Compliance
    • Trademarks
    • Buying
    • Selling
    • Baseball
    • Basketball
    • Boating
    • Cycling
    • Extreme Sports
    • Fishing
    • Football
    • Golf
    • Hockey
    • Hunting
    • Martial Arts
    • Running
    • Scuba Diving
    • Soccer
    • Swimming
    • Tennis
    • Dating
    • Divorce
    • Marriage
    • Weddings
    • Astrology
    • Buddhism
    • Christianity
    • Faith
    • Hinduism
    • Islam
    • Judaism
    • Meditation
    • Metaphysical
    • New Age
    • Cable and Satellite TV
    • Cell Phones
    • Communication
    • Gadgets and Gizmos
    • GPS
    • Satellite Radio
    • Video Conferencing
    • VoIP
    • Addictions
    • Coaching
    • Goal Setting
    • Motivational
    • Stress Management
    • Time Management
    • Clothing
    • Electronics
    • Fashion
    • Gifts
    • Jewelry
    • Causes and Organizations
    • Environment
    • History
    • Holidays
    • Men's Issues
    • Nature
    • Philosophy
    • Politics
    • Women's Issues
    • World Affairs
    • Air Travel
    • Camping
    • Cruises
    • Destinations
    • Outdoors
    • Article Writing
    • Book Reviews
    • Copywriting
    • Fiction
    • Non-Fiction
    • Poetry
    • Quotes
    • Screenplay
    • Tools and Resources