3 Reasons to Buy S&P 500 Index Funds

By: Wayne Duggan

Warren Buffett’s Berkshire Hathaway recently held its highly anticipated annual shareholders meeting. In addition to updates on Berkshire’s business, investors always pay attention to what the Oracle of Omaha has to say about the economy, investing strategy and the stock market in general.

At this year’s meeting, Buffett briefly spoke about the advantages of investing in S&P 500 index funds. Here are three reasons why any investor should consider making an S&P 500 index fund a core portfolio holding.

1. Diversification
Diversification is one of the simplest and most effective ways of managing risk in an investment portfolio. In a nutshell, the more diverse your holdings, the less likely it is that one single investment will drag down your overall performance. At the same time, diversification also helps ensure you don’t completely miss out on the next red-hot stock or theme.

The S&P 500 index includes roughly 500 of the largest U.S. public companies at any given time. These companies range from big tech stocks like Microsoft (NASDAQ: MSFT) and Apple (NASDAQ: AAPL) to financial stocks like Visa (NYSE: V) and JPMorgan Chase (NYSE: JPM) to energy stocks like Exxon Mobil (NYSE: XOM) and Chevron (NYSE: CVX). By buying an S&P 500 index fund, investors are essentially buying 500 different stocks that operate in all sectors and industries of the U.S. economy all at once.

2. Affordable, Expert Management
Members of a committee of S&P Global investment experts rebalance the S&P 500 on a quarterly basis. Since the beginning of 2017, more than 80 companies have entered the S&P 500 and 80 have left.

The goal of the S&P 500 selection committee is to select 500 stocks that accurately represent the U.S. equity market. The committee considers size, liquidity, profitability, float and balance in selecting which companies join and which companies get the boot. Struggling companies are constantly being weeded out and replaced by flourishing ones. 

But one of the best things about this management is how low the cost is. For example, the SPDR S&P 500 ETF Trust (SPY), charges investors just a 0.09% annual fee, or expense ratio.

3. Long-Term Track Record
The stock market may seem unpredictable on a day-to-day or week-to-week basis. However, the S&P 500 has been remarkably consistent throughout history on a large enough timescale.

Despite the Great Depression, the Dot Com Bubble, the 2008 Financial Crisis and countless other economic booms and busts, the rolling 30-year average annual return for the S&P 500 has always stayed between around 8%, and as high as around 15% going all the way back to 1926. In other words, if you bought an S&P 500 index fund at any point in the past 95 years and held on for 30 years, the worst you would have possibly done is an 8% average annual return.

The author holds no position in the stocks mentioned.

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