socket.io server, handler function

var app = require('http').createServer(handler)
  , io = require('socket.io').listen(app)
  , fs = require('fs')

app.listen(8080);

function handler (req, res) {
  fs.readFile(__dirname + '/index.html',
  function (err, data) {
    if (err) {
      res.writeHead(500);
      return res.end('Error loading index.html');
    }

    res.writeHead(200);
    res.end(data);
  });
}

io.sockets.on('connection', function (socket) {

    socket.on('sendchat', function (data) {

        io.sockets.emit('updatechat', data);

    });
});

This is my websocket server (node.js + socket.io). I understand everything except the handler function. Could someone please explain what it does? And what does index.html do, and where is it located? On my client side im using a razor view named something completly different, and it works anyway.

Thanks