Passive income is the main thing i’m working towards, because gives you much more time to do the things you want it, I also believe its something everything should be working towards as there’s only so much everyone can work and the additional income can bring security to out finances, however I do believe some forms of passive income aren’t truly passive for example property, you still need to manage the properties and if you hire a company to do this there will still be some constant communication to get this done, it’ll be less work than a job, but not truly passive.
Why you should invest in index funds
Im a firm believer that investing in globally diversified index fund portfolios is the most passive form of income, as there’s should be minimal if any time needed to keep it performing. Things you may need to do with index funds is rebalancing your portfolio, you may look at your portfolio by sector allocation or by geographical allocation you can often monitor this through your brokerage and sell or buy more funds to suit your expected or targeted allocations.
setting you allocations is a personal choice and depends on your goals however a few things that can affect your choice for example is the growth grate or certain sectors such as tech and if you allocate your portfolio by geographical location its important to understand that some countries or continents take up a much bigger share of the worlds economy than others for example North America has a larger proportion than Europe.
If keeping track of all this isn’t something you want to do id recommend buying a fund that covers the whole world you can check that there allocation matches what you want and buy, its what I personally do ,as I don’t like to put much effort into my index funds I treat it as a second pension which will be able to retire me earlier than my company pension.
like any stocks you will receive dividends if your in the uk you could consider one of two tax efficient ways of investing which include the stocks and shares ISA which has tax free and you can withdraw your money at any point, or a personal pension where you will get a 25% bonus on any deposits however you can’t withdraw this until you are at retirement age, other countries will have similar schemes and your circumstances will effect which choice you make.There are of course limits on these accounts £20000 per year for an isa and £45000 per year for a personal pension which is more than most people will need, you certainly won’t be rich after one year of this but consistently doing this will definitely make you wealth overtime and the benefit is there are both tax efficient(it is worth noting you are tax of income from the pension when you take it out)
A major benefit of index funds is there easy to understand there’s a few things you need to check ,but nothing that takes weeks to understand fully.
Because index funds are so diversified they don’t fluctuate as much as single stocks may have, when I started investing I made the mistake of holding one stock and it could be up 10% one day then the next I was at -10% (I wasn’t great a picking individual stocks)and it put me off investing for a bit but when investing in index funds unless something major happens (like the start of a pandemic) you won’t generally see major fluctuations on a globally diversified portfolio.
it has been widely stated that investing in index funds will often beat people who invest in individual stocks and this I believe is because people are two concerned about getting big winners as apposed to rising with the market.
What are somethings to keep in mind when investing in index funds:
Expense ratios- this is how much your brokerage charges you for the index fund generally stick to expense ratios of less than 0.3% the reason this is so important is because this expense ratio will eat away at your dividend income and stock appreciation. Lets say you have £10000 invested with a gain of 8% so you end up with £10800 an expense ratio of 0.3% would leave you with £10767.60 where as 1% would leave you with £10692, that’s a difference of £75 which will compound over the years and really start to add up.
Have a look at what its invested in- not all index funds are created equally you want to have exposure to the big players for example amazon Facebook etc. but you also want new and upcoming industries involved too, there will be an in-between of more steady slower crow companies in-between which is needed ,but you should know generally what you are invested in, the fund I invest in covers over 1000 companies , I obviously haven’t go over all of those companies but i’ve check the companies which have a high allocation for that fund to make sure they suit what I want.
Have a look at the funds past performance and compare it to what the fund is meant to be tracking for example a fund could be called an s&p 500 fund but it might not be matching or even coming close to the s&p 500s performance this to me would be a red flag I understand past performance isn’t an indication of where it will be in the future but for me I want to have confidence in what i’m investing in.
when should you buy index funds
I personally buy my index funds once a month when I get paid I would ideally be buying every week or even everyday to closer follow the market however for most people once per month when you get paid put a bit of what you get paid into index funds and set up a direct debit so its done automatically, however the more frequent the better generally and if you can find a way to easily mange this that should be your approach.
should I just invest in just index funds
In short I would personally say no this is because exposure to other assets is good for example crypto has huge growth potential and real estate can make 30%+ per year fairly easily, I believe index funds have a much needed place in an overall portfolio for reliable long term growth however in my opinion you should also be using other investments to get a higher return and diversifying you income ,however if you insist in only investing in index funds that completley acceptable I would recommend however when you start getting above £100000-£200000 I would start to consider platform diversification by this I mean you should consider having an account with another brokerage just incase something happens to your first one there’s another account for example they close down or freeze funds for whatever reason you have another one to keep you going when you rely on this income.
How much should you invest in index funds
This depends on who you are and what your goals are ,i’m personally aiming for when I have my final portfolio for index funds to make up 30-40% for there reliable growth and stable income however this will change for each person and is something you need to consider personally.