“Just buy the S&P 500.” I hear it more every year, from clients, from their friends, and from whatever they have read online or asked ChatGPT. Some go further and decide that active funds, where a manager chooses what to hold, are bad by default.

I like index funds and ETFs, and I use them for clients often. Most of my clients hold a mix of index funds and active funds. A well-spread portfolio of index funds can serve someone very well for decades. My worry is investors who put everything into one index on trust, without knowing what it leaves out, or what else is available to them.

First, the case against active funds

It is a strong case, so I will start with it.

S&P Dow Jones Indices publishes a scorecard that compares active funds with the index they are trying to beat. Over the 20 years to the end of 2025, about 93% of active US large-cap funds did worse than the S&P 500. Over 15 years, about half of the funds in that group had closed or merged along the way. The long-term results for international and emerging-market funds look much the same.

I take those numbers seriously. If your plan is to pick an active fund at random and hope it beats its index, the odds are poor. It is one reason I use index funds wherever they do the job well.

The scorecard compares funds with their benchmarks, market by market. It cannot tell you how much of your money should be in shares, which markets to hold, or what to do when markets fall. You still have to decide those, whether you own index funds, active funds or both.

1. An index puts more of your money into whatever has already gone up

The S&P 500 weights each company by its market value. When a company’s share price rises faster than the rest, its weight in the index grows on its own, and every new dollar you add is split by those weights. On 30 September 2026, the ten largest holdings made up 37.3% of the index, most of them large technology and internet companies.

That has worked well, because many of those companies kept growing for years. But the index has no view on whether a price makes sense. It will hold a company at any price, in whatever weight the market gives it.

An active manager can decide to hold less of a company that looks expensive, or none of it. It can also avoid a company whose accounts or governance it does not trust, even while that company stays in the index. Bonds show this even more clearly: most bond indices lend the most to whoever has borrowed the most, while an active bond manager can choose to lend them less. Those decisions can be wrong. But they are decisions someone is paid to think about.

You can also change the weighting yourself, for example with an equal-weight index fund, which holds every company in the same amount. That can be a good option too, and choosing it is itself an active decision.

2. When shares and bonds fall together

For years, bonds were the cushion. When shares fell, bonds tended to hold up. In 2022 both fell hard: the S&P 500 lost about 18% including dividends, and the broad US bond market lost about 13%. So holding both does not protect you in every kind of market. A mix of the two still makes sense for many investors, and one bad year did not change that.

Some strategies aim to behave differently from both, for example by holding some positions that profit when prices fall. Their returns depend less on which way markets move, though markets still affect them. Many are actively managed and hard to find as a plain index fund. They come with their own risks and costs, so the test is whether they make the whole portfolio better.

3. “ETF” describes the wrapper

People often say “ETFs or active funds” as if those were the two choices. An ETF describes how a fund is packaged and traded. Active or index describes how it invests. Active ETFs exist, and some of the active funds I use for clients come in ETF form.

So for this question, ask how a fund invests and what job it does in your portfolio. The wrapper still matters in other ways. For Singapore investors, where a fund is registered can affect the tax on its dividends and, for funds registered in the US, possible US estate tax. Costs and trading spreads differ too.

4. An index portfolio still needs decisions

Even if every fund you own tracks an index, someone still decides which markets to hold, how much to put in each, when to rebalance, and how it all fits your goals. A simple fixed plan with automatic rebalancing is one sound way to make those decisions. A more flexible strategy is another. Either way, they are decisions, and an index fund will not make them for you.

Hold an S&P 500 fund, a global fund and a technology fund, and you may own the same few companies three times over. I explain how to check for this in The Risks Hiding Inside a Diversified Portfolio.

An index fund will never panic. It will also never think. Both of those jobs are left to you, and the first one is harder than it sounds. When markets fall sharply, you have to stick to the plan you made when they were calm, as I wrote in Everyone Counts the Return. Almost No One Counts the Anxiety.

What about cost?

Cost is one of the best reasons to use index funds. Their fees are usually lower, and lower fees compound in your favour year after year.

An active fund has to earn its higher fee. Paying more is worth it only when there is a clear reason to expect something in return, judged after all costs: a different kind of exposure, behaving differently in a bad year, or a part of the market where research on the ground can make a difference. Where I cannot find that reason, I lean towards the index fund.

How I choose

I start with a conversation about how a client wants to invest, and I go with the style that suits them. Often the bigger choice is the strategy, and the type of fund comes after.

Take an aggressive investor. A common approach is to hold 80% shares and 20% bonds, and rebalance back to that mix from time to time. There is a strong case for it: it is simple, and it does not try to predict markets.

I also use a strategy that changes how much is in shares depending on how expensive markets are. The reasoning is that the price you pay affects the return you can expect over the longer term. High prices do not tell you when a fall will come, and that is the trade-off: expensive markets can keep rising for years, and cutting shares too early can mean missing real gains. So a strategy like this needs clear rules, and a client who understands what it is doing. It uses a mix of index funds and active funds, because what matters here is how much sits in shares, and either type of fund can do that job.

Both approaches can make sense. Which one suits you depends on your goals, how much risk you can take, and how you want your portfolio to behave.

When I do choose between index and active funds, my rule of thumb is this. Where everyone has the same information, such as large US companies, an index fund is hard to beat, and I prefer one. Where research on the ground can give a manager an edge, such as smaller companies or markets with less coverage, there can be a case for an active fund. Even there, most active funds still lag over long periods, so choosing the manager is most of the work.

Index funds are one of the best tools investors have. Active funds are another. Before you put everything into one index, start with what your money needs to achieve, and what will help you hold on when markets fall. Often the answer will be an index fund. Sometimes it will not, and it is worth knowing which.

The figures in this article describe the past and come from the sources below. Past performance is not a reliable indicator of future returns. Nothing here is a recommendation of any particular fund.

Sources

  • S&P Dow Jones Indices, SPIVA U.S. Scorecard Year-End 2025 (3 March 2026): 92.89% of all large-cap funds underperformed the S&P 500 over 20 years; 50.55% of large-cap funds survived 15 years; over 20 years, 94.37% of emerging-market funds and 84.78% of international small-cap funds underperformed their benchmarks
  • S&P Dow Jones Indices, S&P 500 index page: weight of the top 10 constituents 37.3%, as of 30 September 2026
  • 2022 calendar-year total returns: S&P 500 about -18%; Bloomberg US Aggregate Bond Index about -13%