An index fund tracks a market index. The S&P 500, the FTSE 100, the Nikkei 225. Instead of trying to pick winners, the fund buys everything in the index. If the index holds 500 stocks, the fund holds 500 stocks. The result is average market performance, minus a very small fee. That simplicity has made index funds one of the most important financial innovations in decades.

The first index fund launched in 1976, created by John Bogle at Vanguard. Critics called it un-American. Why settle for average? But the numbers told a different story. Most active managers underperformed the index after fees. Over decades, the gap widened. Today, index funds hold trillions of dollars. They dominate retirement accounts and have reshaped the asset management industry.

Costs matter enormously in indexing. An actively managed fund may charge 1 percent or more per year. An index fund may charge 0.03 percent. On a $100,000 portfolio, that difference is $970 per year. Compounded over 30 years, it reaches six figures. Index funds also generate fewer taxable events because they trade less. For most investors, the case is strong. The main risk is that you own the whole market, including its bubbles.

Common index funds

• S&P 500 index fund
• Total stock market fund
• International index fund
• Bond index fund
• Sector-specific index fund