What does it mean when people say "Index your portfolio"?

[Phat_cow]

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[pitz]

Indexxing is an investment philosophy where you take a well-known market index or benchmark, ie: the Standard and Poors 500 (S&P500), commonly quoted in the news headlines, and you buy the stocks in weightings that represent that of the index. The 'index' changes very infrequently, so it essentially ends up being a long-term buy and hold strategy.

When you do that, you earn the return of the index + dividends (if included), minus your expenses.

If the index is broad and representative enough of an economy or a stock market, then you will earn an average return, minus your expenses. Since it is impossible for the universe of mutual fund managers and stock pickers to be above 'average', the process of minimizing expenses has the potential to deliver additional value for the investor in the form of higher returns.

[zoltorg]

Previous poster is 100% correct.

When he says "average" don't be scared now! It can still be a good return.

If you dont have the time to invest in individual stock (and from the question I'll assume you are/wern't a business major), invest in iShares S + P 500 or iShares TSX.

Very low fees (almost 0% actually), market returns.

[Archanfel]

Generally, a market needs be controlled by institutional players to be efficient. They set the average, which is a high bar for stock pickers to beat. It's not that technical analysis doesn't work, it's that such analysis is already priced into the average. There are always people who will tell you that they can beat the market and I have no doubt that it's possible. However, buying index is a fairly safe way to get rich slowly.

A lot of markets are not efficient though. In those markets, try to follow the big fishes and don't get bitten.

[Phat_cow]

When you said Long-term buy and hold strategy. How long do you usually hold them for (average)?

Thanks for answering my questions. YOu guys are awesome :)

[DanielCarrera]

When you said Long-term buy and hold strategy. How long do you usually hold them for (average)?

I don't know what the average is, but 10+ years is a reasonable number. The idea is that the stock market is unpredictable in the short term. It goes up and down constantly and you never know which way it'll go. But over the long run, the market goes up by about 7-8% above inflation. The longer you hold the stock, the more opportunity there is for the random ups and downs to average out to give you a more predictable 7-8% real return ("real" return means "after inflation").

Index funds are a great strategy because they beat about 80% of managed mutual funds. Why? Because managed mutual funds have high fees (called MER, or Management Expense Ratio). A typical managed fund may have 3% MER whereas a decent index fund in Canada will have a 0.5% MER. 2.5% doesn't sound like a lot, but it actually does make a huge difference in the long run. Let's do an example:

- You invest $1,000 in the market today.
- The market grows at 8% real return (after inflation).
- The index fund has an MER or 0.5% and the managed fund 3%.
- In 10 years the index fund has $2,061 vs the managed fund at $1,629.
- In 20 years the index fund has $4,248 vs the managed fund at $2,653.
- In 30 years the index fund has $8,755 vs the managed fund at $4,322.
- In 40 years the index fund has $18,044 vs the managed fund at $7,040.

As you can see, the difference grows larger over time.