One of the common myths that many investors believe in is that earning high returns by investing in the broad market indices is difficult. It is much better to select the right stocks and get better returns that outperform the indices.

Well, this may be true in case of only the top investors. For the rest, investing in the indices is much safer, easier, and profitable.

Let us understand why.

1. Picking Only Winning Stocks Is Almost Impossible

To earn good returns from a portfolio of stocks you will have to be a master stock picker and select only the winning stocks. This is incredibly difficult to do.

In most cases, some of the stocks you choose will give you good returns and the others will not. The average and low performers will reduce the average return from the portfolio bringing it closer to the returns that you will earn from indices.

2. Safety

The indices like Nifty50 consist of the top stocks available in the market. Hence, we can be sure that our investments in the are relatively safer since the value of the stocks in the index will not become zero.

3. High liquidity

The indexes are transacted heavily every day. Hence there will be no liquidity issues and the price will also not get impacted significantly even if we do large transactions in the indices.

4. Tax Benefits

Indices are passively managed. This makes them extremely low cost, and we can get significant tax benefits when we invest in index funds directly.

When we create a portfolio of stocks on our own then we must regularly churn it to optimize the performance. This results in high transaction costs and it also attracts a high short-term capital gains tax, since in most cases the stocks are held for less than one year.

However, in the case of index funds, the portfolio is rebalanced by the exchanges and we do not have to do anything. This lowers our transaction costs.

We can also easily hold onto the portfolio for more than one year and get subjected to long term capital gains tax when we sell it.

5. Hedging

You can use the Index Derivatives to hedge your position in stocks. Stock market participants regularly hedge their portfolios by selling an index future of buying index put options.

6. Leveraging

Index derivatives attract low margins. Thus, if you are holding a portfolio and suddenly face a need for funds, you can sell your portfolio and buy index futures and options of the same exposure value.

Thereafter, you can utilize the part of the sale proceeds from your portfolio to pay the margin for these derivative positions and use the rest of the money to meet your needs or even lend it to others at a very attractive interest rate.

These were some of the compelling benefits of investing in indices. These make index funds and derivatives extremely attractive to millions of market participants, and you can utilize them to your advantage too.