Index Fund Returns vs. Mutual Fund Returns
An index fund tracks a broad market index such as the Dow Jones Industrial Average (Dow.) A mutual fund invests in various securities which may or may not be part of any index.
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Index
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The Dow is a basket of 30 specific stocks that supposedly represent a cross-section of large, publicly-traded American companies. The Standard and Poor's 500 index tracks 500 public companies. The Nasdaq composite index tracks 3,000 companies. Each index is a broad indicator of market sentiment.
Index Fund
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An index fund invests money in a basket of securities that closely tracks a chosen index. Index fund managers do not research individual companies, they only invest in companies that make up the index. For example, the Dow Diamonds fund closely tracks the Dow.
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Mutual Fund
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A mutual fund invests in individual shares or securities that may or may not be part of an index. For example, a mutual fund may focus investments in pharmaceutical companies only.
Returns
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An index fund moves almost exactly like the underlying index. A mutual fund's performance is solely determined by share price changes of its portfolio companies. Hence, returns can be considerably different.
Example
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In any year, if the Dow rises 10 percent, the Dow Diamonds index fund will rise 10 percent too. However, a pharmaceuticals-focused mutual fund could rise, say, 40 percent or drop, say, 20 percent. Returns are quite different.
Benchmarks
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Mutual fund performance is typically measured relative to an index. Mutual fund managers who beat the index consistently are lauded for their stock picking skills.
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References
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