Index Hugger

What Is an Index Hugger?

The term index hugger refers to an actively managed mutual fund that, notwithstanding active management, performs like and tracks a major benchmark index like the S&P 500.

Actively managed funds are expected to outperform the purported average performance produced by passively managed index funds, which attracts most investors. In any case, they frequently come at a high price — the fees connected to index huggers are many times a lot higher than those associated with more conventional investment vehicles.

Understanding Index Huggers

Mutual funds are investment vehicles that take money collected from a pool of investors and invest it into a variety of securities including stocks, bonds, cash, money market vehicles, and other assets. The type of assets a fund invests in depends on its investment strategy — a fixed income mutual fund invests in fixed income instruments while a global equity fund invests in international equities.

Mutual funds are generally isolated into two categories — passive and active. Passive management styles limit the amount of buying and selling that happens. The purpose is to buy and hold, building wealth over time rather than profiting off short-term gains in the market. Passive investing additionally limits how much investors pay in fees to the management organization — something common with active management styles. Investments that are actively managed include frequent buying and selling worked with by a portfolio or investment manager who continually monitors the market.

Ensure you join with a fund manager with a proven track record if you really have any desire to invest in an index hugger, otherwise the extra money you'll spend in fees won't be worth it.

Embracing the Index

Index huggers are actively managed mutual funds that track major benchmark indexes like the S&P 500 or the Dow Jones Industrial Average (DJIA). Therefore, any movement in the index is mirrored in the corresponding fund. Investors who are enthused about exploiting gains in a stock market index will probably benefit from investing in an index hugger. Their performance behavior gives investors reason to compare it to something of a closet index fund. Closet fund managers try to alleviate the risks associated with active management by tracking indexes.

Index huggers offer investors minimal in the method of benefit and are frequently considered shady since they apparently exploit investors' lack of information. They advertise market-beating returns that they can't deliver, all while charging fees for the service. Fund companies ordinarily benefit a great deal from the alternative — closet trackers. These vehicles are modest and simple to operate. The fund receives fees for performing a service that is largely non-existent. Accordingly, closet trackers empower large brokerage houses to operate a wide range of portfolios with a passive, one-size-fits-all approach.

Special Considerations

Since the fees associated with index huggers might offset the benefits, numerous investors would be better off distributing their assets into a low-cost index exchange-traded fund (ETF). That is on the grounds that the index hugger might not have the potential for a prominent return when compared to these types of ETFs. The main reason to consider paying higher costs for a managed fund is if the portfolio manager being referred to has a strong track record of outperforming the market.

The R-Squared Factor

Index huggers ought to bring the R-squared factor into play for investors as they perform their due diligence while determining whether to make an investment. In the investing world, R-squared is commonly considered to be the percentage of a fund or security's movements that can be made sense of by vacillations in a benchmark index.

R-squared values range from 0 to 1 and are commonly stated as percentages from 0% to 100%. A R-squared of 100% means all movements of a security, or the dependent variable, are totally made sense of by movements in the index, or the independent variable. A high R-squared that falls somewhere in the range of 85% and 100% proposes that the performance of the stock or fund moves relatively in accordance with the index. In this scenario, investors might be better off investing in the index itself, which has lower portfolio turnover and lower expense ratio features.

Highlights

• Index hugger funds generally advertise market-beating returns that they can't deliver thus can be named as manipulative.
• These funds frequently charge more in fees than more conventional mutual funds or passive index funds.
• An index hugger refers is an actively managed mutual fund that nevertheless performs like a benchmark index.