Index Funds vs Actively Managed Funds: Costs and Evidence

For most investors, a low-cost index fund is the better default. In 2025, 79% of actively managed US large-cap stock funds returned less than the S&P 500, according to S&P Dow Jones Indices' SPIVA scorecard, and the main reason is structural: the average actively managed equity mutual fund charged 0.64% a year in 2025, against 0.05% for the average index equity mutual fund (asset-weighted averages from the Investment Company Institute). Active funds can and do win in particular years and corners of the market — US small caps in 2025 is one — but picking which ones in advance is the hard part.

What each type of fund actually does

An index fund buys the securities in a published index, such as the S&P 500 or a total-market index, in the index's own weights. Nobody decides which companies to own; the index rules do. Costs are low because there is little research to pay for and little trading.

An actively managed fund pays a manager or team to choose holdings, aiming to beat a benchmark index. You pay for that work through a higher expense ratio, and usually through higher trading costs inside the fund, which do not appear in the expense ratio at all.

Who decides what goes into an index — and why that is a quieter form of active choice — is explained in who picks the S&P 500.

What the 2025 scorecard found

SPIVA compares active funds with the benchmark for their category. The Year-End 2025 US report found:

Three things stand out. Large-cap managers had a poor year: S&P called 2025 the fourth-worst year for them in the scorecard's 25-year history. Small-cap managers did well, because the S&P 500 beat the small-cap benchmark by 12%, so a small-cap manager who leaned towards larger companies looked good. And bond funds fared worse than equity funds on average (70% underperforming, against 62% across equity categories).

One year is a short window. The full report also tables periods of up to 20 years, which are the better guide to choosing a fund, so read the latest edition on S&P's SPIVA site before relying on any long-horizon figure. Two forces work against active funds as the period lengthens: costs compound, and funds that do badly are often closed or merged and drop out of the record (survivorship bias).

The cost gap, in numbers

Fees are the one part of the result you know in advance. A fund charging 0.64% has to beat its index by 0.59 percentage points a year, before trading costs, just to match a 0.05% index fund.

Without any growth at all, the difference on a 100,000 balance is 640 a year versus 50 a year: 590 a year, or 5,900 over ten years.

With growth, the gap widens because the fee comes off a larger balance each year. Investing 10,000 at the end of every year for 30 years (300,000 in total), and assuming a 6% annual return before fees — an assumption chosen for illustration, not a forecast:

Each value uses the standard future-value formula for yearly contributions, with the fee subtracted from the assumed return. The actual return will be different, possibly much lower or negative in some years; the point is the size of the gap, which grows with time whatever the return. How to find a fund's full cost, including tracking difference and spread, is covered in fund costs: TER, tracking difference and spread.

Why beating the index is hard, even for skilled managers

When active management can make sense

If you would rather hold the market than bet on a manager, the three-fund portfolio is the usual starting point, and index fund concentration risk covers the main drawback of cap-weighted indexes today.

Checking your own fee drag

If you already hold several funds and are not sure what you are paying, AI-assisted tools like PopAI Pro Sheets can pull your holdings together and surface expense ratios and overlap across positions — a practical way to apply the numbers above to your own portfolio.

Frequently asked questions

Do index funds always beat actively managed funds?

No. In 2025, 79% of US large-cap active funds trailed the S&P 500, but only 41% of small-cap active funds trailed their benchmark, so most small-cap managers came out ahead that year. The index fund's advantage is lower, certain cost, not a guarantee of a higher return.

How much cheaper are index funds?

In 2025 the asset-weighted average expense ratio was 0.05% for index equity mutual funds and 0.64% for actively managed equity mutual funds, according to the Investment Company Institute. On a 100,000 balance that is 50 a year against 640.

Why do most active funds underperform?

Mainly costs: before fees, active investors as a group earn the market return, so after fees the average active fund must trail it. Higher trading costs and the difficulty of repeating a good year add to the gap.

Are actively managed funds ever worth it?

They can be in categories where the evidence is more favourable, or where you want a strategy no index fund offers. Check the scorecard for that category and the fund's full costs before paying for management.

This article is for informational purposes only and does not constitute financial advice. Always consult a qualified financial adviser before making investment decisions. The value of investments can fall as well as rise.

Related reading: the stock market for beginners covers the basics before you choose between index and active funds.

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