Since an index fund is ran by a separate company to follow a market index (like the S&P 500), and is not actually the index, how does it match the index movement?
I know the fund managers buy shares of stock represented by the index. But it’s a separate stock that can be traded by investors, so it can take on a trend of it’s own right?
In: Economics
The index vendor licenses to the fund manager a “recipe” — buy X% of this stock, Y% of this stock, and so forth — which also happens to be the **definition** of the index itself.
Thus, if properly constituted, the fund has NO CHOICE but to follow its index, since it is defined in the same way.
SOME types of funds are subject to “drift”, but there is also a self-correcting mechanism built into the creation-of-shares process.
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