What makes an index fund so great?

For one thing, you know exactly what you're getting, and you know exactly what part of the market you're tracking. Funds based on the S&P 500, by definition, will never outperform the market: If the S&P rises 20% next year, your S&P 500 index fund should return about the same. But they won't underperform the market, either.

What's more, because index funds aren't "actively managed" - that is, the fund manager isn't spending lots of time and effort scouting around for which stocks to buy and which to ditch - the annual fees for index funds tend to be lower than those for actively managed funds. (For more, see How much do mutual funds cost?) Those lower fees mean that index funds outperform the vast majority of actively managed funds over time. That's more money in your pocket when you need it in retirement.

Index funds also tend to rack up lower taxes each year than actively managed funds do. For more, see Investments and taxes.

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