Index Funds vs. Mutual Funds: Key Differences That You Should Know

Financial investments, in general, are a way to secure your wealth as well as to multiply it. You can manage your investments by yourself or with the help of a professional. Though there is a risk of uncertainty in any investment, however, if returns are guaranteed it means there is a little to no risk at all. Exploring financial tools such as mutual funds or index funds seems like an ideal option for accumulating wealth in the long run without taking unnecessary risks.

It also helps diversify the portfolio and protects your investments. Index funds more or less are the same as mutual funds and the major difference lies in how they are managed. While mutual funds are actively managed, index funds are passively managed. There are various factors affecting the risks of investments. 

Table of Content

• What is an Index Fund?
• Definition of Mutual Fund
• Benefits of Index Funds
• Benefits of Mutual Funds
• Differences Between Index Funds & Mutual Funds

What is an Index Fund?

Index funds are a type of mutual fund or sub-category that replicates the index of a specific market such as BSE Sensex or NSE Nifty, intending to match the performance. Unlike mutual funds, index funds cannot be actively managed. This means you cannot customize index funds as their primary goal is to mirror the performance index of the market. 

Definition of Mutual Fund

In simple language, mutual funds are investments of multiple investors collected in a large basket. Mutual funds are actively managed by professionals such as the fund manager, who makes investment decisions based on the goal of the funds' money. Eventually, they share the profits with everyone who has invested in the fund. 

Benefits of Index Funds

• Cost-effective: Index funds often charge lower fees as they are not managed by professionals. Since the expense is relatively low, which means more of your money goes toward the investment.
• Easy to monitor: Since index funds are passively managed, there is transparency in the process involved. Index funds replicate the market index, which ultimately makes it easy to understand their performance.
• Diversification:Investing in index funds gives investors access to a wide range of stocks i.e. well 

performing across different industries. Index funds allow investors to diversify their portfolios instantly.

• Higher Returns: Passively managed funds in most cases outperform actively managed funds. The results of index funds are not influenced by subjective individual decisions or biases.

Suggested Read: How to Invest in Index Funds: A Beginner's Guide

Benefits of Mutual Funds

• Professional Management: Mutual funds are actively managed by professionals who make investment decisions, using their critical thinking while aiming for the best possible returns.
• Liquidity: Mutual funds are highly liquid as investors can easily buy or sell their units.
• Regulation and Oversight: Regulatory bodies frequently monitor the funds. Just to ensure transparency, accountability and alignment with the interests of the investors.
• Diversification: Creating a diversified portfolio, and reducing the risks is done by spreading the funds over a range of assets.

Suggested Read: Top Reasons to Start a Mutual Fund SIP Before the Year Ends

Differences Between Index Funds & Mutual Funds

• Management Costs: For those who want to cut unnecessary costs, index funds seem like an ideal consideration. Due to their passive nature, index funds have lower fees making it easy and cost-effective for those who want to minimize expenses. Whereas, actively managed mutual funds usually charge higher fees than passive funds.
• Investment Goals: Index funds are often a better option if you want long-term consistent growth with little minimum effort. These funds provide consistent returns with little investor input as well as track the market indices, making them ideal for those who seek a wide-ranging exposure without having to manage actively. 

On the other hand, actively managed mutual funds can be more inciting if you are looking for growth. However, this comes with a greater risk because the funds aim to outperform the market.

• Risk Tolerance: This is one of the most important aspects when considering an investment in any type of fund. Index funds are generally more appropriate for risk-averse investors as they provide diversification and reduced volatility. Index funds are more reliable for individuals seeking profits or accumulating wealth over a long period. Mutual funds on the other hand are more volatile making it an ideal option for investors who are willing to endure losses due to the risks involved. Moreover, the chances of increased risks also provide higher returns.
• Transparency: When it comes to transparency and tax efficiency, index funds are a good way to because the fund holdings are transparent and are made for the general public. Due to reduced turnover, index funds result in greater tax efficiency. On the other hand, actively managed mutual funds usually offer increased turnover leading to greater profits.

Investing in mutual funds with Muthoot Finance provides individuals access to professional fund managers, flexibility, liquidity, and more. Invest in mutual funds with Muthoot Finance for a brighter future for your family.