An index fund is a mutual fund that simply copies an index. It holds the same stocks in the same weights as, say, the Nifty 50, instead of paying a manager to pick stocks. An ETF tracks an index the same way, but its units trade on the stock exchange like a share; the real difference between the two is how you buy, sell and price them.
If ETFs are new to you, read what is an ETF (Exchange Traded Fund)? before this article.
What exactly does an index fund do?
Nothing clever, and that's the point. If the Nifty 50 gives a bank 10% weight, the fund puts about 10% of its money in that bank. When the index changes at a rebalancing, the fund changes with it. There is no analyst deciding which stocks look attractive; the index provider's rulebook is the portfolio.
Meera invests ₹10,000 in a Nifty 50 index fund. She now effectively owns a tiny slice of all 50 companies, in index proportions. If the index rises 2% over a month, her investment should rise by roughly 2% minus the fund's costs. The "roughly" is explained in what is tracking error?
Because copying is cheaper than researching, index funds typically charge lower expense ratios than actively managed funds. Exact charges vary by scheme. Always check the scheme document.
So how is an ETF different, if it tracks the same index?
The portfolio inside can be nearly identical. The wrapper is what differs.
| Index fund | ETF | |
|---|---|---|
| How you buy | From the fund house (AMC), directly or via a platform | On the exchange, like a share |
| Price you get | That day's closing NAV, whatever time you order | The live market price at the moment you trade |
| Demat account | Not needed | Needed. Units sit in your demat account |
| SIP-style investing | Straightforward. Automated instalments are standard | You place your own buy orders each time |
| Minimums | Scheme-defined minimum amount, often small | One unit at market price |
| Extra frictions | Exit load, if the scheme has one | Brokerage/exchange charges and the bid-ask spread |
Two consequences of that table are worth spelling out.
Timing. Meera's index-fund order placed at 11 a.m. and her friend Farhan's placed at 2 p.m. both get the same end-of-day NAV. But if Farhan buys an ETF at 11 a.m. and again at 2 p.m., he pays two different live prices. ETFs give intraday control; index funds deliberately don't.
Price vs value. An index fund transaction always happens exactly at NAV. An ETF's market price hovers around its underlying value but is set by buyers and sellers, so it can drift slightly above or below, especially in thinly traded ETFs. Checking an ETF's traded volumes before buying is a sensible habit.
When a fund house launches a brand-new index scheme, it first opens for subscription through an NFO. See what is an NFO, and how do I apply for one on Rupeezy?
Which one should I pick?
There's no universal answer. The honest question is which frictions bother you less. If you want automated monthly investing and don't care about intraday prices, the index-fund route is simpler. If you already operate a demat account, like trading at live prices, or want to enter and exit within a day, the ETF route fits better. Many investors use both for different purposes.
Things to keep in mind
- Same index, same portfolio. The index fund vs ETF choice is about buying route, pricing and convenience, not about what you own.
- ETF buyers should watch liquidity: a wide bid-ask spread or a price far from the underlying value is a real cost.
- Index-fund investors transact at NAV, so intraday market moves don't affect what your order gets, only the closing valuation does.
- Costs (expense ratio, exit load, brokerage, spread) differ scheme by scheme; read the scheme documents rather than assuming.
Read next
What is tracking error? — How closely those vehicles actually follow the index.