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      02-07-2013, 12:59 AM   #4
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It is really based on one's level of risk tolerance and situation including age, number of years to retirement, and the like.

Index funds are a type of mutual fund which mimics an index. So if you buy shares of the S&P500 Index Fund with Vanguard (who are known to have some of, if not THE, lowest fees in the business, at least last time I checked), you essentially are buying a portion of a share of every company represented by that index with each share of the fund.

Indexes are widely followed so you always have a sense of where you're at - you turn on the news and you see Dow Jones, S&P500, NASDAQ, etc. numbers all the time; as the index moves up, so do your shares, and vice versa; On the other hand, "regular" mutual funds will have a specific sector or set of companies that the fund managers prefer to invest in.

The general idea is that index funds are more diverse and more long-term. You can look at the history of the S&P500 (although history does not indicate future performance, of course) and see how it has performed over decades and see if that sort of return over 5, 10, 20, 40, etc. years would have been beneficial to you, hypothetically speaking.

One thing to note is fund fees. Vanguard is known to have low fees for the management of their Index funds. This is important, because as you continue to invest, and reinvest dividents, lower fund fees will not eat into your earnings and ability to build up as much as with other funds.

Make sure to read or at least peruse the prospectus of any fund you are considering investing in, even if you're comparing an index fund offered by one company vs. another, because fees will be different. For the more risky funds, it's a good idea to have some knowledge and understanding of the particular sector that fund tends to invest heavily in, as that can help you to determine your level of willingness to take risks based on a more educated opinion rather than "this fund has done well over the past N years so it must be good".