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Index Funds vs Mutual Funds :
Mutual funds are shares in a company made up of investments in other stocks. Each mutual fund share will represent a fraction of share of a diversified portfolio of individual shares. Mutual funds do not trade in the open market and fund companies take orders on a daily basis. The fund price is calculated each day based on the net value of the securities in the fund.
Index funds are set of stocks and contents of the fund is known and fixed. You can track the fund’s gains and losses by the index that is measurable. Some index funds are mutual funds while others are securities. The shares of the funds can be bought and sold like any other stock in the open market. There are variety of index funds like Dow, Nasdaq, Nasdaq 100, MidCap 500, communications, e-commerce, whole market to name a few.
Fund managers spend a lot of time researching and selecting specific stocks to make up a mutual fund. The way your fund performs depends on the type of stocks the fund manager selects. Although index funds are selected by people, most of the hard work is done using computers. The idea behind index funds is to keep a fixed ration and volume. The pricing of the fund is done by investors who are willing to pay or accept a certain price for the fund.
Liquidity of mutual funds and index funds is quite different. Where mutual funds are concerned, brokers might require the mutual fund order to be entered by a certain time each day to get to the fund company on that particular day. In addition, you will only figure out the closing price in the evening after the end of day so when you are buying mutual funds, you are only guessing whether the price will go up or down. In contrast, index funds are tradable like any other stock. You get your transaction done as quickly as the broker executes it. In addition, you get your funds immediately provided the broker allows you to withdraw them.
Index funds allow greater diversification as there are funds that hold up to 500 or even 2000 shares. When you invest in this type of index fund, you are practically buying the whole market. Mutual funds, on the other hand, usually hold a maximum of 50 odd stocks. If a mutual fund holds more than this, it will reduce its growth and make it difficult to manage.
Most index funds do not grow as much as mutual funds. But then, they do not drop as much as mutual funds on a bad run.
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