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Indexing offers a number of investment benefits over a conventional approach. Broad-based indexes offer better diversification, have lower fees, and follow a more transparent investment process, which means investors have a clearer idea of what they are getting.

The problem with indexing is that the commercial index provider determines the stocks or bonds held in the portfolio. The firm publishes a list—usually annually or semi-annually—containing all the stocks composing that index, or benchmark. The manager attempts to closely track the benchmark. But rigid construction works against the strategy.

Most index fund managers are judged by their ability to closely track their respective index. The main problems with this approach are loss of control, trading disadvantage, and style drift.

Listen to the podcast for the rest of the story!