Index Funds and ETFs: Key Differences Every Investor Must Know

• Sushil Bajaj |
• 2 September 2025 |

In today’s fast-paced world, most investors don’t have the time to track and manage their portfolios regularly. As a result, many prefer passive investment options, where money follows a benchmark index with minimal effort.
Two of the most common passive investment choices in India are Index Funds and ETFs (Exchange-Traded Funds). Both aim to mirror popular indices like NIFTY 50 or SENSEX, but they differ in structure, cost, and trading method.

If you’re trying to decide between Index Funds and ETFs, this guide explains their features, advantages, and drawbacks.

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What is an Index Fund?

An Index Fund is a mutual fund that passively tracks an index such as NIFTY 50, SENSEX, or NIFTY Next 50. Instead of trying to beat the market, these funds replicate the performance of the index by holding the same stocks in the same proportion.

Key Features of Index Funds

• Open-ended scheme – You don’t need a trading account.
• Flexible investment options – Allows SIP (Systematic Investment Plan) or lump sum.
• Choice of plans – Offers both growth and dividend options.
• Simple management – Fund managers replicate the index rather than actively picking stocks.
• Moderate costs – Expense ratio is slightly higher than ETFs because of AMC and management fees.
• Daily valuation – NAV (Net Asset Value) updates once per day at market close.

👉 Best for: Long-term investors who want simple, hassle-free investing without dealing with stock market complexities.

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What is an ETF (Exchange-Traded Fund)?

An ETF also tracks an index, commodity, bond, or asset basket. However, unlike index funds, ETFs trade on stock exchanges in real time, just like shares.

Key Features of ETFs

• DEMAT account required – You must use it to buy and sell units.
• Lump sum only – SIP is not available.
• Lower costs – Expense ratios are usually below index funds.
• Brokerage applies – Investors pay brokerage on every trade.
• High transparency – Real-time portfolio holdings are visible.
• Live pricing – Prices fluctuate throughout the day based on demand and supply.
• Diverse exposure – Includes equity ETFs, bond ETFs, gold ETFs, and commodity ETFs.

👉 Best for: Investors with a DEMAT account who prefer lower costs, real-time flexibility, and are comfortable with trading.

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Index Funds vs ETFs: Side-by-Side Comparison

Factor	Index Funds	ETFs
Investment Method	SIP or lump sum via AMC/distributors	Buy/sell directly on the stock exchange
DEMAT Account	Not required	Mandatory
Expense Ratio	Higher (0.5% – 1.5%)	Lower (0.05% – 0.5%)
Liquidity	Less liquid – buy/sell at day-end NAV	Highly liquid – trade anytime in market
Valuation	NAV updated once daily	Real-time price fluctuation
Ease of Investment	Very easy – like mutual funds	Requires trading knowledge & DEMAT
Dividend Option	Growth & dividend both available	Dividend payout only
Suitability	Beginners & long-term investors	Experienced, cost-conscious investors

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Key Takeaways

• Index Funds: Beginner-friendly, allow SIP, and suit investors focused on long-term growth without active involvement.
• ETFs: Cost-effective, flexible for intraday trading, but require a DEMAT account and trading know-how.
• Both mirror benchmark indices, yet ETFs suit active traders, while Index Funds suit passive investors.

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Popular ETFs in India

• Nippon India ETF Nifty BeES
• SBI ETF Nifty 50
• HDFC Gold ETF
• ICICI Prudential Nifty Next 50 ETF
• Bharat Bond ETF
• Kotak Nifty Bank ETF
• Motilal Oswal Nasdaq 100 ETF

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FAQs on Index Funds vs ETFs

1. Which is safer – Index Fund or ETF?
Both are market-linked. Index Funds feel safer for beginners because of SIP and easy access, while ETFs may carry risk if liquidity is low.

2. Can I invest in SIP with ETFs?
No. SIP is available only with Index Funds.

3. Which has lower costs – Index Funds or ETFs?
ETFs usually have lower expense ratios, but brokerage fees apply on every trade.

4. Do I need a DEMAT account for Index Funds?
No. You need DEMAT only for ETFs.

5. Who should invest in ETFs?
Investors with trading experience, a DEMAT account, and a preference for low-cost real-time exposure should choose ETFs.

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Conclusion

Both Index Funds and ETFs serve as excellent passive investment tools. Your choice depends on your investment style:

• Pick Index Funds if you want SIP, simplicity, and beginner-friendly investing.
• Pick ETFs if you prefer low costs, higher flexibility, and already use a DEMAT account.

For long-term wealth creation, many investors combine both options in their portfolio.