What does an index fund do?

We go over all you need to know about index funds, including what they are, how to purchase them, and things to think about before you do

The multitrillion dollar market for index and tracker funds allows investors to mimic the performance of a specific market or asset class, but how do they operate?

The concept of index funds dates back many years. They are an inexpensive method of expanding exposure to a sector or theme or diversifying a portfolio. Because they provide value for money, low fees, and consistent market-level performance, index trackers are frequently among DIY investors' top fund choices.

They hold all or a representative sample of the stocks or bonds that make up a particular market index, such as the FTSE All-World or the FTSE 100.

The article goes on below.

Check out six complimentary BFIA issues now.

Gain unmatched financial insight, analysis, and professional advice that will benefit you.

Start your trial. "Index funds aim to match the market, offering predictable returns and minimal management costs, rather than trying to beat it," says James Norton, Vanguard Europe's head of retirement and investments. Consequently, they are an example of a passive investment approach rather than an active one.

John Jack Bogle, the founder of Vanguards, launched the Vanguard 500 Fund in 1976 as the first index fund accessible to individual investors. After almost 50 years on the Vanguard 500 Fund, Bogle is still regarded as a pioneer of index investing and continues to track the SandP 500's returns.

According to data from the Investment Association, index-tracking equity funds recorded net retail inflows of 1.1 billion in January 2026, demonstrating their durability. Because they offer easy access to a wide range of assets, they are well-liked by both novice and seasoned investors.

Index funds have advantages and disadvantages.

According to Norton, index funds have four main advantages. They are as follows.

Low cost: Index funds enable investors to keep a larger portion of their returns by avoiding the high fees frequently connected with active management.

According to Norton, "higher costs are correlated with a better product in many areas of life." But when it comes to investing, high costs are just a barrier that the manager has to overcome in order to break even. According to data, index funds perform better over the short and long terms than more costly active funds. The "

Diversification: Effective risk management is aided by wide exposure across industries and regions. The best-performing stocks are automatically owned by investors who own a diversified index fund. In the words of Jack Bogle, "Just buy the haystack; don't search for the needle in the haystack." A "

Transparency: Investors in index funds are aware of their exact holdings and their performance.

Discipline: Long-term investing is encouraged by index funds, which also lessen the temptation to attempt market timing.

Norton does, however, add that when using index funds, investors should take into account the following guidelines.

Establish specific goals and match investments to long-term objectives. Retain equilibrium by spreading your investments across different asset classes and geographical areas. Reduce expenses: To maximize net returns, give low-fee index funds priority. Remain disciplined: Refrain from making snap judgments when the market is volatile.

What gives index funds their dependability?

Index funds are also known as tracker funds because they follow an index of assets. Their returns will always be comparable to this benchmark index if they are properly managed.

As long as the underlying index accurately reflects the market, this makes them a reasonably trustworthy method of gaining exposure to a particular market or theme. The fund manager will make sure that the portfolio's asset mix corresponds to the benchmark index.

In contrast, the fund manager of active funds will actively buy and sell assets into and out of the portfolio in an effort to beat the benchmark.

Investing in active funds can theoretically yield higher returns than index funds for comparable sectors, but this is rarely the case in practice. According to AJ Bell's most recent Manager versus Machine report, only 24% of active funds performed better than a passive alternative over the ten years ending on November 30, 2025.

Therefore, a global equities index fund (tracking, for instance, the MSCI World Index) would be the most dependable choice for investors who wish to allocate a portion of their portfolio to match the returns of the global stock market.

However, the difference between the returns of index funds and the benchmark index is known as tracking error.

Dan Moczulski, managing director of eToro UK, advises investors to assess how closely the fund follows its index. "The tracking error should be as low as possible. A "

The best index funds to purchase right now.

Among AJ Bells do-it-yourself investors, these index funds were the most popular in the first two months of 2026.

Citation: Dodl, AJ Bell. based on net purchases made in February and January of 2026.

The L&G Global Technology Index Trust is one example of how index funds can be used to gain exposure to a particular sector or theme, even though the list also includes five global stock market trackers and two S&P 500 trackers. The fund provides investors with exposure to a worldwide range of technology stocks since it tracks the FTSE World-Technology Index.

View Additional BlackRock S&P 500 Vanguard Information.