Ask MAX: What's better: an index fund or an actively managed fund?

March 21, 2004

Blanche from Florida asks:

What's better: an index fund or an actively managed fund?

The rivalry that exists between active fund people and index fund people is a long and bitter one, and has been growing in intensity ever since Vanguard's John Bogle launched the first index fund, the Vanguard 500 Index Fund (VFINX), back in 1976. Supporters of index funds think active fund owners are suckers who pay higher fees for worse performance. Active fund owners consider index fund owners over-diversified, risk-averse wimps.

I want to be very careful here, Blanche. Because of the highly controversial nature of your question and the potential for harm an incomplete answer could cause on one side or the other, I'm going make sure to respond to it as carefully and completely as I can.

An index fund is a mutual fund that tries to mimic, as closely as possible, the holdings of a particular index. Depending on the fund, the index tracked might be the S&P 500 Index, the Dow Jones Industrial Average, the Wilshire 5000 Equity Index, the NASDAQ Composite Index, or any one of the scores of other indexes that have sprung up over the years.

An actively managed mutual fund doesn't follow an index. Active managers build their funds one company at a time, through painstaking research and analysis. The job of an active fund manager is to identify and buy the very best stocks that fit their fund's prospectus objective.

Both actively managed and index funds have aspects to them that are good, and aspects that are not so good. In our MAXadvisor Newsletter model portfolios we invest in both index and actively managed funds. Which one is 'better' depends on who it is that is buying the fund, what that person hopes to achieve with the money they place in the fund, and even the markets conditions that exist during the life of the investment. the rest of this article»

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