A Beginner's Guide To Index Fund Investment On E-Trade

Index funds are a great way to build wealth over the long term. They are a group of stocks that mirror the performance of an existing stock market index, such as the Standard & Poor's 500 index. Index funds are passively managed, meaning they don't require active decision-making on which investments to buy or sell. This makes them a low-cost investment option, as fees for actively managed investments tend to be higher.

E*TRADE is an online platform that offers a range of investment options, including exchange-traded funds (ETFs). ETFs are collections of stocks and bonds that are built to track well-known market indexes. E*TRADE offers every ETF sold, along with tools and guidance to help users find the right ones for their portfolio. The platform also offers prebuilt portfolios of ETFs, automatic investing with a minimum of $25, and an ETF screener to quickly find the desired funds.

1. Have a clear goal for your index funds: Know what you want your money to achieve. If you're looking for slow and steady growth over time, index funds can be a great option, especially for retirement planning.

2. Research index funds: Consider factors such as company size, geography, business sector, market opportunities, and asset type when investigating index funds.

3. Pick your index funds: Compare costs, as these can vary significantly between funds with the same investment goal.

4. Decide where to buy your index funds: You can purchase index funds directly from a mutual fund company or a brokerage. E*TRADE offers a wide range of ETFs and provides tools to help you make informed investment decisions.

5. Open an investment account: You will need an investment account, such as a brokerage account, individual retirement account (IRA), or Roth IRA, to purchase shares of an index fund.

6. Monitor your index funds: Keep an eye on your index funds' performance and ensure they are mirroring the underlying index. Reevaluate if the fees become too high over time.

Research and analyse index funds

Index funds are a type of mutual or exchange-traded fund (ETF) that tracks the performance of a market index, such as the S&P 500, by holding the same stocks or bonds or a representative sample. Index funds are defined as passive investments that mirror the performance of benchmarks like the S&P 500 by mimicking their makeup.

When researching and analysing index funds, there are several key factors to consider:

• Location: Consider the geographic location of the investments. For example, a broad index like the S&P 500 or Nasdaq-100 includes American companies, while other index funds might focus on a specific country or region, such as France or Asia-Pacific.
• Business: Identify the market sector or industry the index fund is investing in. For instance, is the fund focused on pharmaceutical companies, technology firms, or another sector?
• Market opportunity: Understand the opportunity the index fund presents. For example, is the fund investing in pharmaceutical companies because of an upcoming blockbuster drug, or because they are established cash cows paying dividends? Some funds focus on high-yield stocks, while others target high-growth stocks.
• Fund performance: Evaluate the long-term performance of the index fund, ideally over a period of at least five to ten years, to assess its potential future returns. Keep in mind that each fund may track a different index or perform better than another fund, and certain indexes may outperform others over time.
• Expenses: Compare the expenses of different funds, as costs can vary significantly even among funds based on similar indexes. For instance, a fund tracking the S&P 500 might have an expense ratio of 0.03%, while another could be as high as 0.095%.
• Taxes: Mutual funds tend to be less tax-efficient than ETFs due to taxable capital gains distributions at the end of the year.
• Investment minimums: Mutual funds often have a minimum investment amount for the initial purchase, which can range from zero to several thousand dollars. In contrast, ETFs typically do not have a minimum investment requirement, and brokers may even allow the purchase of fractional shares.

By carefully considering these factors, investors can make informed decisions about which index funds align with their investment goals, risk tolerance, and financial situation.

Decide which index fund to buy

Index funds are a great way to build wealth over time, especially for retirement investors. They are a group of stocks that mirror the performance of an existing stock market index, such as the Standard & Poor's 500 index. Index funds are passively managed, meaning they don't need to actively decide which investments to buy or sell. This makes them less expensive than actively managed funds.

• Company size and capitalization: Index funds can track small, medium, or large companies, also known as small-, mid-, or large-cap indexes.
• Geography: You can choose funds that focus on stocks trading on foreign exchanges or a combination of international exchanges.
• Business sector or industry: You can explore funds that focus on specific sectors such as consumer goods, technology, or health-related businesses.
• Asset type: There are funds that track bonds, commodities, or cash.
• Market opportunities: These funds focus on emerging markets or other growing sectors.

When deciding which index fund to buy, it's important to compare the expenses of each fund. Consider the expense ratio, which is the fee subtracted from each fund shareholder's returns as a percentage of their overall investment. Also, look at the investment minimum, which is the minimum required to invest in a mutual fund, and the account minimum, which is the minimum required to open a brokerage account.

• Fidelity ZERO Large Cap Index: This fund tracks the Fidelity U.S. Large Cap Index and has a 0% expense ratio.
• Vanguard S&P 500 ETF: This fund tracks the S&P 500 index and is backed by Vanguard, a powerhouse in the fund industry. It has a low expense ratio of 0.03%.
• SPDR S&P 500 ETF Trust: This ETF is one of the oldest and most popular, trading since 1993 and sponsored by State Street Global Advisors. It has a slightly higher expense ratio of 0.095%.
• IShares Core S&P 500 ETF: This fund is sponsored by BlackRock and has been tracking the S&P 500 since 2000. It has a low expense ratio of 0.03%.
• Schwab S&P 500 Index Fund: This fund is sponsored by Charles Schwab and has a strong record dating back to 1997. It has an extremely low expense ratio of 0.02%.

Remember, when deciding which index fund to buy, consider your investment goals, the fund's expenses, and the fund's performance over the long term.

Purchase your index fund

Once you've decided which fund fits your portfolio, you can proceed to the easy part: buying the fund. You can purchase an index fund directly from a mutual fund company or a brokerage, or you can buy it through a broker. If you're buying a mutual fund, it's usually easier to go through a broker. If you're buying an ETF, you'll need to go through your broker.

When choosing where to buy an index fund, consider the following:

• Fund selection: Do you want to purchase index funds from various fund families? While the big mutual fund companies carry some of their competitors' funds, the selection may be more limited than what's available from a discount broker.
• Convenience: Find a single provider who can accommodate all your needs. For example, if you're just going to invest in mutual funds (or even a mix of funds and stocks), a mutual fund company may be able to serve as your investment hub. But if you require sophisticated stock research and screening tools, a discount broker that also sells the index funds you want may be better.
• Trading costs: If the commission or transaction fee isn't waived, consider how much a broker or fund company charges to buy or sell the index fund. Mutual fund commissions are typically higher than stock trading commissions, at about $20 or more. In comparison, stock and ETF trades usually cost less than $10 each.
• Impact investing: If you want your investment to make a difference outside your portfolio, some funds target companies with a focus on environmental or social justice causes.
• Commission-free options: Do they offer no-transaction-fee mutual funds or commission-free ETFs?

To purchase shares of an index fund, you'll need to open an investment account. A brokerage account, individual retirement account (IRA), or Roth IRA will all work. You can then buy the fund in the account.

When you go to purchase the fund, you may be able to select a fixed dollar amount to spend or choose a number of shares. The share price of the index fund, and your investing budget, will likely determine how much you're willing to spend. For instance, if you have $1,000 you'd like to invest in an index fund, and the fund you're looking at is selling for $100 a share, you'd be able to purchase 10 shares.

Understand the costs

Understanding the costs involved in investing in an index fund on E*TRADE is crucial for making informed decisions. Here's a detailed breakdown of the costs you should consider:

Trading Costs

E*TRADE offers a wide range of investment options, including stocks, options, futures, exchange-traded funds (ETFs), and mutual funds. Each of these investment types may incur different trading costs. For example, stocks and options trades on US Exchange-listed stocks typically have standard commissions of $0, plus an additional $0.65 per options contract. Broker-assisted trades may incur an additional $25 fee.

ETF and Mutual Fund Costs

ETFs and mutual funds are known for their low costs. At E*TRADE, ETFs are offered with $0 per trade, making them typically less expensive than mutual funds. Mutual funds may require a minimum dollar amount, such as $100 or $1,000, to purchase a set number of shares based on the day's share price. However, it's worth noting that some mutual funds have a $0 minimum. Additionally, ETFs on E*TRADE offer fractional shares through Automatic Investing, starting with a minimum of $25.

Commission Fees

Commissions are service fees charged by brokerage firms each time you buy or sell shares. E*TRADE from Morgan Stanley offers commission-free ETFs and mutual funds, eliminating these fees altogether. This can result in significant savings, especially for active traders or those with a long-term investment horizon.

Expense Ratios

Index funds, which are a type of ETF or mutual fund, tend to have lower expense ratios compared to actively managed funds. Expense ratios represent the fees charged by fund managers, expressed as a percentage of the fund's total assets under management (AUM). Due to the passive nature of index funds, their expense ratios are generally lower, making them a more cost-effective investment option.

Account Activity Fees

Various account activities may incur fees on E*TRADE. For example, there may be fees for check returns due to insufficient funds, electronic transfer returns for insufficient funds, or Reg T Call Extensions. These fees vary and are outlined in the E*TRADE Fees and Rates section of their website.

Other Costs

When investing in index funds on E*TRADE, it's important to consider other potential costs, such as the fund's investment objectives, historical performance, and any additional fees mentioned in the fund's prospectus. Additionally, keep in mind that some funds may have management fees or other expenses associated with them.

Understanding and considering all the costs involved in investing in an index fund on E*TRADE is essential for making well-informed investment decisions. Be sure to review the E*TRADE Fees and Rates section and carefully read the prospectus of any fund you consider investing in to ensure you have a comprehensive understanding of the costs involved.

Diversify your portfolio

Diversifying your portfolio is a crucial step in investing. Diversification is a management strategy that blends different investments in a single portfolio. The idea behind diversification is that a variety of investments will yield a higher return and lower risk. Here are some ways to diversify your portfolio using index funds:

• Spread the Wealth: Don't put all your money in one stock or one sector. Consider investing in a range of companies, sectors, and asset classes. You can also invest in commodities, exchange-traded funds (ETFs), and real estate investment trusts (REITs). Think beyond your home base and invest globally to spread your risk and potentially achieve bigger rewards.
• Consider Index or Bond Funds: Adding index funds or fixed-income funds to your portfolio can provide long-term diversification. These funds track various indexes and try to match their performance. By investing in securities that mirror broad indexes, you can gain exposure to a wide range of companies and sectors. For example, one share of an index fund based on the S&P 500 provides exposure to all 500 stocks in the index. Index funds also tend to have lower fees, as they are passively managed, resulting in lower expense ratios.
• Sector Funds: You can invest in funds that track specific sectors such as oil, technology, finance, or consumer goods. This allows you to diversify within that sector and across different sectors. Ensure you know what each fund invests in to avoid duplicating holdings.
• Exchange-Traded Funds (ETFs): ETFs are baskets of stocks and bonds, often designed to track well-known market indexes. They offer built-in diversification, as they are collections of dozens, hundreds, or even thousands of investments. ETFs are typically easy to buy and sell, just like stocks, and they are usually less expensive than other investment options such as mutual funds.
• Mutual Funds: Mutual funds are another way to achieve diversification, as they are also baskets of individual stocks, bonds, or other assets. They provide built-in diversification since you are invested in multiple companies across different industries. However, mutual funds may require a higher minimum investment amount compared to ETFs.
• Long-Term Investment: Index funds are ideal for long-term investors who plan to stay in the fund for 6-10 years or more. While individual stocks may fluctuate and underperform in the short term, indexes have historically recovered from downturns over the long term.

Frequently asked questions