S&P 500 Index Fund | Vanguard Smart Investing Strategy in the Stock Market

A S&P 500 Index Fund is a passively managed fund or ETF that follows the companies that belong to the said index. There is a direct relationship between the index fund and the composite index itself.

That means if the S&P goes up, like it historically has in the past, then your fund value goes up with it. Either way, there are great advantages to using this financial instrument as an investment vehicle for your portfolio.

There are several asset management companies like Vanguard and BlackRock which offer, other than investment advice, it's iShares S&P 500 Index Fund, previously owned by Barclays Global Investors. iShares can also be accessed through sponsoring investment advisers like Fidelity Investments.

Index funds are relatively safe and cheap. It uses a conservative trading strategy and it is usually very low on management fees. In addition, an S&P 500 index fund adds the power of investing alongside the US market which has historically risen over time.

It can be in the form of a mutual fund like the Vanguard 500 index fund, which is currently the most widely used fund for the S&P 500. For reasons I will explain later, these funds tend to have lower management fees associated with them than the typical mutual fund.

It can also be in the form of an exchange traded fund or ETF, an instrument that is growing in popularity among investors. In some cases, ETF's may be even cheaper than index mutual funds.

Advantages of Index Funds

There are many advantages to using index funds. In fact, there are some experts who say that it's the only way for an individual investor should invest. These are two of the primary advantages to index investing.

Following the Market

Typically, what investors and traders try to do is beat the market. They are trying to find undervalued stocks that they expect to rise to the appropriate price level at a future date.

Index funds work opposite of that. Instead of trying to beat the market, they are trying to invest along with it.

The wisdom of this strategy is that very few people who try to beat the market succeed. Secondly, historically, the market has always gone up over time and so you can be fairly sure that it will continue to do so.

Index Funds Are Cheap

Because the S&P 500 index fund is a passively managed fund that merely follows the corresponding index, it is much cheaper to manage. That also means it's a lot cheaper on the fees for the investor.

Mutual fund management fees are calculated partly or entirely by what's called the expense ratio. The expense ratio is the percentage of the entire value of the mutual fund that it costs to manage the fund. This expense ratio includes money manager salaries, administrative staff and other overhead costs.

In the case of an actively managed fund where money managers are scouring through individual stocks and analyzing the company and the market, the expense ratio can really add up.

For a S&P 500 index fund, Standard & Poor's has done the work for them. The money managers simply plop in the corresponding companies.

The S&P 500 index is a composite of 500 companies that the folks at Standard and Poor's have decided are indicators for the state of the economy. These are companies from a variety of sectors and industries, so they represent a broad spectrum of the economy.

Many financial experts view the S&P 500 composite as a better indicator for the economy than the Dow Jones Industrial Average. One main reason is because the it has a broader array of companies than the 30 that are represented in the DJIA.

The S&P 500 index is also a market value weighted index. This means that the value of the companies in the index are reflected and not just their share price.

The S&P also uses a free float weighted system for the market cap as well. This means that they only use the outstanding shares that are available for public trading for it's market capitalization calculation.

The DJIA is compiled using the sum of the price of a single stock in each of it's companies. The S&P 500 uses not only the price of the stock but also multiplies that by the outstanding shares, which is market value of the company, not just one share.

Here's a simple example of why this is important.  If a large blue chip company with a share price of $100 per share has a stock split, the value of the share will go down.  The market value of the company doesn't go down.  But the value of the company will go down in the Dow.  Since the S&P is weighted with the market cap, it will largely stay the same.

This index fund is the best of index investing combined with the strength and steadiness of the S&P 500. Vanguard has the most widely used S&P 500 index fund.

It is called simply the Vanguard 500 Index Fund and has been acclaimed for it's low fees, and of course it's track record.