Index Fund

An index fund is a type of investment fund that tries to match the performance of a specific market index. An index is just a list of companies that represents a section of the market. The S&P 500 tracks 500 of the largest U.S. companies. The S&P/TSX Composite tracks the largest companies in Canada.

Instead of hiring a team of analysts to pick stocks they think will outperform, an index fund simply buys everything in the index. If the S&P 500 goes up 10%, an S&P 500 index fund should return very close to 10% (minus a small fee).

ETF or mutual fund?

Index funds can come in two forms: ETFs or mutual funds. The strategy is the same. The difference is how you buy them and what you pay. Index ETFs tend to have lower fees (often under 0.25%), though low-cost index mutual funds like the TD e-Series (around 0.25% to 0.50%) aren’t far off. What matters most is the fee and the index it tracks, not whether it’s packaged as an ETF or a mutual fund.

Why it matters

Decades of research have shown that most actively managed funds (where professionals pick stocks) don’t beat their benchmark index over the long run, especially after fees. That’s not to say stock picking is pointless or that active management never works. But for the portion of your portfolio where you just want reliable, broad market growth, index funds are a straightforward option.

They’re also simple. You don’t need to research individual companies or time the market. You buy the index, and you get whatever the market returns. That said, not every fund labelled “index” or “ETF” is truly passive. Our guide on whether all ETFs are passive explains the differences.

A concrete example

You put $10,000 into an S&P/TSX Composite index ETF with a 0.06% MER. The index returns 8% that year. Your investment grows to roughly $10,794 after the tiny fee is deducted. An actively managed Canadian equity fund charging a 2.0% MER would need to return 10% before fees just to match that result.