Index funds or individual stocks? Which is better?

Index funds or individual stocks?

Which is better?

Warren Buffett, the father of value investing and one of the most successful investors in the stock market, is known for the way he made a fortune from his investments.

He analysed the companies that had excellent growth potential and invested in their individual stocks, irrespective of the general market trends. But apart from this, the one thing he has always promoted is the allocation of some of your investment corpus to index funds. In fact, while advising his wife, he suggested she invest 90% of her money in index funds.

One thing that can be concluded from this is that both investing in individual stocks and index funds, however different, is beneficial. The choice depends on your risk appetite and financial goals. To understand how you can decide between the two, let us explore both options in detail.

Investing in individual stocks Investing in individual stocks allows you to buy or sell stocks from the stock exchanges using your Demat account and a trading account set up with a SEBIregistered broker, such as Motilal Oswal. You can select the number of shares

you want to invest in and manage your preferences accordingly. It also gives you greater control over your portfolio.

When you invest in stocks of a particular company, you become part-owner of the company. You are entitled to the dividends that the company might declare from time to time. Moreover, you might also get voting rights by virtue of your stock ownership.

You earn profits when you buy low and sell high. Also, if the company declares bonus shares or makes a rights issue, you stand to benefit.

Investing in index funds Index funds are a type of mutual fund – they provide a basket of stocks to invest in. They are a readymade portfolio created by fund managers that mirror a benchmark index. This means the investment in each stock would be in the same proportion as it is in the index.

For instance, the Nifty 50 index fund would invest in the 50 stocks listed on the Nifty 50 index in the exact same proportion as they appear on the index. The fund manager ensures it is always aligned. Index funds track the performance of the underlying index— the Nifty 50, in the case of our example. When the index moves upwards as a result of the underlying securities gaining market value, the NAV of the index fund increases proportionately. You get a profit when you redeem your units at a higher NAV compared to the NAV at which you invested. Moreover, you can earn dividends if you choose the dividend option when investing in the index fund, like with other mutual funds.

One essential point to note here is that index funds only mirror the index and are not programmed to overtake or outperform the index. Your profits will remain in line or at par with market growth. Read More About Index funds vs individual stocks