Is an index fund a good choice for a starter investment?

Question

As an individual that is willing to consistently invest ~100-150 dollars monthly into an investment, willing to devote an average of an hour a day to educate himself / monitor investments, what kinds of investments should I consider?

My risk appetite is moderate-risky. But I am willing to push towards more risky in coming years. I am looking for an avg return of ~5% every 2 years. (Canadian market)

Should I go with an index fund?
EDIT:I am 30 yrs old. If index funds are so good, how come they have not wiped out actively managed mutual funds completely? i.e. I cannot see any benefit of an actively managed mutual fund over an index fund. Should I start things off by talking to an investment adviser from my bank?
Also, I started educating myself by spending 1hr/day on investopedia. But I gather this is going to be a slow process. Are there any otehr books/websites that I may peruse?

Answer 1

My experience is in the UK, not Canada, but i imagine the situation is similar.

It's true that an index tracker will outperform the average managed fund. But it's also true that there's a lot more variation in performance in managed funds than in trackers (naturally). That means that when people look at performance league tables, they see managed funds at the top, and they go for managed funds. That explains why index funds haven't taken over the market - people always think they can do better.

The question is, of course, whether they can. Can you reliably pick a managed fund that will be in the top half of that league table five years down the line, rather than one which will have crashed into the below-the-index relegation zone? You can find any number of pundits who will assure you that you can, and at least as many who will be equally certain that you can't.

My two cents (three cents Canadian) is that you can, as long as you're sensible and not greedy; forget about any fund with 'growth', 'aggressive', or 'emerging markets' in the title, and look for ones with a consistent track record over five years or more. It's not a guarantee of future success, but i do think it's a reasonable indication. I'd be interested to see statistics about this, though.

In particular, look for income funds - that's where the money is invested in a diverse set of companies that pay good dividends; the growth rate and volatility may or may not be better than an index tracker, but the dividends mean that the growth in value of the fund is less dependent on capital growth, shielding you from poor performance. For example, a good chunk of my savings are in the Invesco Perpetual High Income fund, which has beaten the FTSE all-share index by a modest amount over the last five years, and will probably beat it harder over the next five if they don't include another crash (a big if!).

On the subject of dividends, i don't know how things work in Canada, but in the UK, an index tracker doesn't pass on any of the dividends paid by the shares it notionally holds; it just tracks the capital value, with the fund manager pocketing the payouts. I have a vague idea that an ETF does pass the dividends on to you, but i'm not sure.

As for websites, The Motley Fool is good.

Answer 2

Yes.

I only do index ETFs, and index funds and target retirement funds. I do not spend anything near an hour a day to monitor my investments. More like an hour a month.

Pick a fund with super low costs and feed it regularly by auto deposit from your paycheck.

Answer 3

I think Index funds are a good idea, but only if you know what you are doing. They can be risky if you are not diversified properly. And not all index funds are created equally. That means that just because it has the name 'Index' in it does not mean that it will perform as expected. Given that your question asks if it is good for a starter investment, I would say no. You are better off starting off with a solidly managed mutual fund with a good track record and clearly stated objectives.

Answer 4

If you are interested in a single-fund solution covering indexed stocks and bonds, you may want to consider ING Direct's Streetwise Portfolio options. The Canadian Couch Potato does a good writeup on these options, entitled "The One-Fund Solution".

ING Direct offers four different funds; its very likely that one of the options will be a good match for you. This fund invests in four different indexes, Canadian bonds (DEX Universe Bond Index), Canadian stocks (S&P/TSX 60), US stocks (S&P 500), and international stocks (MSCI EAFE). The allocations are determined by the specific streetwise fund you buy.

As pointed out in the Couch Potato article and associated whitepaper, this option may be a good choice if you have a small amount of money to invest, and are looking for a simple, straightforward option. If you are looking at a more substantial investment, though, the MER of 1.07% will make other options (for example, buying these indexes via a TD Waterhouse account) worth the (small) extra hassle.

Note that I regularly read that blog and am a customer at both banks I list here, but have no other affiliations with these.