- Low management fees
- No sales charges or commissions
- Turnover no higher than 40 percent a year
- Established track record
- Consistency of return
If the index fund satisfies all the above criteria, you can go ahead and invest in it.
Research and studies have shown that the difference between managed funds and index funds is most the cost imposed, wherein managed funds cost more. Therefore, when you choose an index fund, make sure that it has lower costs. All funds charge an annual management fee. You should choose an index fund that has low management fees. Usually index funds charge around two-tenths of one percent of the assents. Any fund that charges management fees above 1 percent will underperform.
Sales charges are also known as loads or commissions. There might be charge for buying or selling the fund. You need to avoid these. Some funds have reduced selling sales charge if you hold on to them. You should avoid these index funds completely.
Turnover of an index fund is measured in how long the fund holds onto the stock it buys. The longer the fund holds onto the stock, the less trading it does between different stocks, and this will result in lower turnover. You can find index funds with a turnover of as low as 5 percent.
Although a track record is no indication of future results, an index fund that has been underperforming significantly will most probably continue the trend. Therefore, it is best to avoid it.
When checking for consistency of returns, make sure you look for good returns on a regular basis rather than going for funds that have great runs followed by bad ones.
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