Steps to build the best index fund strategy

06 April 2022
Steps to build the best index fund strategy

You’ve heard why index funds are all the rage. They help you invest passively and are usually more cost-effective than actively managed funds available in the market. If you’re wondering how to go about it, then here’s how you can build the best index fund investing strategy for you.

STEP 1- Assess your current investing situation

The first step is however to understand your overall portfolio strategy, risk, and investment objectives. You may then pick an index based on these factors.

For eg, if your current portfolio lacks any exposure to the banking sector, and you’d like to capitalise through them, then you can consider the NIFTY bank index.

Similarly, based on whatever your goals or investing interests are, you may choose a benchmark index that corresponds to them. Whether that be Nifty 50, Sensex, sectoral index of any kind, etc.

STEP 2- Choose the right fund tracking that index

Once you’ve picked an index, the next step is to look for AMCs and fund-houses that offer index funds that track it. Generally speaking, there is atleast one index fund available in the market, for every benchmark index out there.

If you’ve picked a general index like Nifty 50, you may even have more than a handful of index funds available to invest in. In such cases you may want to consider a few quick things, such as-

1. How closely does that index fund track the performance of its respective benchmark?

2. Among the index funds available, which offers the lowest cost?

3. Are there any restrictions such as exit load, fees or taxes, that may prevent you from investing in the particular fund? You could also consider whether the same fund-house has any other index funds you might be interested in.

When you choose a goal and its tenure period at Stack, we help you cut through the hassle. Your portfolio’s, called Stacks, are a steady balance of different assets, including index funds - and the best part? Your customised strategy perfectly suits your risk levels and larger investing objectives.

STEP 3- Invest!

Once you’ve picked the right index fund for you, you can simply purchase units of the fund to get started.

If you have a brokerage account you can choose to invest through it or via an index funds app. Alternatively, you could also directly buy units from the AMC, online.

Things to keep in mind before investing in index funds

Before you can start investing, and building your index fund investing strategy, keep these factors in mind:-

1. Index funds never beat the market. Index funds only match and mimic its benchmark’s performance, if you wish to grow your wealth higher than that then an index fund may not be right for you.

2. Index funds are still risky. Index funds track their markets in through dips and peaks, so if the market witnesses a downturn, your index fund will too, especially in the short term. But their broad diversification means that the decline in some sectors may be offset by gains in other sectors and, over long-term horizons, the index typically generates better results.

3. You don't get to optimise your own strategy. Depending on the index you choose, you can end up owning some stocks you'd rather not own while missing out on others you'd prefer.

To compensate for this, always focus on building a diversified investment plan instead. Especially one that has a mix of index funds and other investments to offer greater flexibility.

If you plan on investing in index funds, it's best to consider these factors carefully.