S&P 500 Index Funds Explained: What They Cost, What the Risks Are and How to Start

Ask ten experienced investors where a beginner should start, and a surprising number will give the same answer: an S&P 500 index fund. It is not flashy. There is no hot tip, no market timing, no spreadsheet of stock picks. Yet it has become one of the most common building blocks in American portfolios, from 401(k) menus to brokerage apps.

With the index sitting around record levels, many readers are asking whether it is still a sensible place to put money. This guide explains what an S&P 500 fund actually is, what it costs, where it can disappoint you, and how to start without overthinking it.

What an S&P 500 index fund actually is

The S&P 500 is a market index that tracks about 500 of the largest U.S. companies. You cannot buy the index itself. Instead, you buy a fund that holds the same stocks in similar proportions, so the fund moves roughly in step with the index.

That is the whole idea behind “passive” investing. Rather than paying a manager to pick winners, the fund simply mirrors a list. One purchase gives you a small slice of hundreds of businesses across many industries and sectors.

Broad exposure: about 500 large U.S. companies in a single holding.
Simple rules: the fund follows the index, so there are no judgment calls to second-guess.
Easy to hold: one fund can be a core position for years.

Index fund or ETF: which version should you buy?

S&P 500 exposure comes in two common wrappers. Traditional index mutual funds are priced once per trading day. Exchange-traded funds (ETFs) trade throughout the day like individual stocks, so you can see a live price and place the orders you would use for any share.

NerdWallet notes that ETFs are generally more tax-efficient than index mutual funds, though it says the difference matters less for long-term holders. For many people the practical deciding factors are simpler: what your brokerage or retirement plan offers, whether you want to invest exact dollar amounts, and whether you value intraday trading at all.

If you are unsure how orders work when buying an ETF, our guide to market, limit and stop orders covers the basics.

What it costs: the expense ratio

Every fund charges an annual fee called an expense ratio, taken out of fund assets automatically. You never see a bill, which is exactly why it is easy to ignore. Across S&P 500 funds, the spread can be wide.

According to NerdWallet, citing Morningstar data as of September 3, 2026, three widely used mutual funds charge:

Fidelity 500 Index Fund (FXAIX): 0.015%
Schwab S&P 500 Index Fund (SWPPX): 0.020%
Vanguard 500 Index Fund Admiral Shares (VFIAX): 0.040%

For comparison, the SPDR S&P 500 ETF (SPY) lists an expense ratio of 0.09%, according to a Motley Fool article published on Nasdaq. All of these are small numbers, which is the point. Index investing is one of the few areas of finance where the cheap option and the good option are often the same thing.

A hypothetical: what fees look like in dollars

This example is a hypothetical for illustration only, not a forecast or a recommendation.

NerdWallet offers a simple way to think about costs: a 0.25% expense ratio costs $2.50 per year on every $1,000 invested. Apply that same arithmetic to a $10,000 balance:

At 0.015%, the annual fee is $1.50.
At 0.09%, the annual fee is $9.00.
At a hypothetical 0.50% actively managed fund, the annual fee is $50.00.

That is the fee in a single year on a static balance. Real accounts grow, receive new deposits, and carry the fee for decades, so the gap compounds. You cannot control the market, but you can control what you pay to be in it.

Why so many people use it as a core holding

The appeal is not that the index never falls. It is that the approach is easy to understand and easy to stick with. David Jagielski, writing for The Motley Fool, describes the S&P 500 as a way to benefit from U.S. economic growth and says index funds can be “an excellent idea” for horizons of a decade or more.

He also points out that the index’s long-run average gain is around 10% a year, and that its recent three-year gains were well above that. Treat long-run averages carefully. An average smooths over years that were sharply negative, and the future need not look like the past. But the broad logic holds: owning a diversified slice of large American companies has historically rewarded patient investors.

Another benefit is behavioral. A single, low-cost fund leaves little to tinker with, and tinkering is where many investors hurt themselves.

The risks no one should skip

An index fund is diversified across companies, but it is not safe in the sense a savings account is safe. Be clear-eyed about these points.

It falls when the market falls. The fund’s value moves with the index. NerdWallet specifically notes that market volatility shows up in your gains and losses.
Multi-year declines happen. The Motley Fool article cautions that the S&P 500 has had multi-year declines, so money you need within one to five years may belong somewhere steadier.
It is still one market. The fund holds large U.S. companies. It does not include bonds, cash, small companies or foreign stocks.
Record highs are not a signal either way. The Motley Fool author argues that new highs alone are not a reason to avoid index funds, since the index keeps setting new highs over time. That is an opinion about history, not a promise.

If market swings make you nervous, our piece on what market volatility means for everyday investors is a useful companion read.

How to get started, step by step

Set your timeline. Money you will need soon is a poor fit for stocks. Money for goals a decade or more away is the natural fit.
Open an account. NerdWallet says you need a brokerage account, and that setup is simple and requires some basic financial information. A workplace 401(k) or an IRA may also offer an S&P 500 option.
Compare two or three funds. Look at the expense ratio, any minimum investment, and how long the fund has existed. Past performance does not predict future results.
Do not stack near-identical funds. NerdWallet notes that funds with nearly identical holdings add little diversification, so owning several S&P 500 funds is generally unnecessary.
Decide how to invest. You can put in a lump sum or add money on a schedule. We compare both in dollar-cost averaging vs. lump-sum investing.
Stay put. NerdWallet recommends a long-term horizon and staying invested during downturns.

Common mistakes to avoid

Most errors with index funds are not about picking the wrong one. They are about behavior.

Waiting for the perfect entry. Trying to guess the bottom often means sitting in cash while the market moves on.
Selling during a drop. Turning a temporary decline into a permanent loss is the costliest move available.
Treating it as your entire plan. An emergency fund and a plan for near-term goals matter. Our guide on sizing your emergency fund is a good place to start.
Ignoring fees on other holdings. A cheap core fund helps little if the rest of your account carries expensive products.

Key takeaways

An S&P 500 fund tracks about 500 large U.S. companies and gives broad exposure in one purchase.
Costs vary: NerdWallet lists 0.015% to 0.040% for three major mutual funds, and SPY lists 0.09%.
It can lose value, including over multiple years, so match it to a long time horizon.
One fund is usually enough; stacking similar funds adds little.
Staying invested through downturns is part of the strategy.

Frequently asked questions

Is an S&P 500 fund the same as owning the whole stock market?

No. It covers about 500 large U.S. companies. It does not include smaller companies, foreign stocks or bonds, so some investors pair it with other funds for broader diversification.

Should I wait for a dip before buying?

Nobody can reliably predict dips. The Motley Fool article argues record levels alone are not a reason to stay out, but it also warns that shorter horizons carry more risk. Your timeline matters more than the headline level.

Does a lower expense ratio always mean a better fund?

Not automatically, but for funds tracking the same index, cost is one of the clearest differences. Also consider minimum investment, fund size and how your account lets you buy.

Sources

This article is for educational purposes only and is not personalized investment advice; investing involves risk, including loss of principal.