by Before we get into why owning an index fund should be a cornerstone of your portfolio let’s get a quick definition out of the way. What is an index fund?
Indexes are a group of stocks that are grouped together and reported on as a group. For example the Dow Jones is made up of 30 large stocks. The S&P 500 is made up of 500 companies, however at present contains 505 stocks because some companies have multiple classes of shares.
When you purchase a mutual fund that tracks one of these or the other indexes you are not buying a stock in a single company rather you are buying a fund or stock that owns this basket of companies.
Why an Index Fund That Tracks a Broad Index Should Be a Cornerstone
Index funds take the work out of selecting a single stock. They reduce your risk of owning one stock and give you the opportunity to own a piece of the market.
For every person who put their money in TSLA and has done tremendously well there are those that put their money in GE and have owned a piece of a company that was removed from the S&P 500.
With all of this, why should you make it a cornerstone of your portfolio or your investment strategy?
Simply put there are only a handful of investors who repeatedly beat the market and they are professionals who spend all day reviewing reports, speaking with individuals at companies, and reviewing large chunks of data.
You may not have the time, desire, or energy to research companies. You also may be getting started and want to provide yourself with the greatest chance at profiting from the market. A terrific way to do this is to purchase a fund that tracks a very broad index.
The most common index is the S&P 500. This is because it is a broad index made up of the 500 very large companies.
A new investor will recognize the names in the S&P 500 as they range from Apple to Google to Advanced Autoparts.
Warren Buffet has said that the stock market is transferring money from the inpatient to the patient. Let’s look at how two levels of investment would have been transformed over the last 10 years had you invested in the S&P.
What we hope you discover is that an investment in this index provides you an opportunity to increase your initial investment. Please keep in mind this is not a guarantee. Had you invested your funds at the beginning of 2018 you would have received a -4.4% on your money by the end of that year. You might have been tempted to pull out your money and start “investing” in lottery tickets.
Had you done that though you would have missed out on 2019 where the return was 31.5%. You would have made back your money and then some.
Part of the key to investing is to put money aside that you are not going to need for awhile. The money is going to work on your behalf so you want to avoid interrupting it while it is working for you.
The chart below shows the annualized return rate of the S&P 500. It’s important to note that trying to “time” the market or selling when it’s high and then buying low is fraught with disaster.
We hope that you have decided to make an index fund a cornerstone of your portfolio. Now you have to decide which fund to purchase.
Index Funds that are Worth Your Time
- Fidelity Zero Large Cap Index – What’s cool about this fund is that it has $0 in expense fees. It’s a newer fund so it doesn’t have reports for its previous years however it’s designed to follow the market and is not actively managed. Fund shares are affordable at less than $15 a share at the time of this writing so you have an opportunity to own more shares with your investment dollars.
- Vanguard S&P 500 ETF – Here we are big fans of Vanguard. In this ETF you have an expense ratio of .03% which translates to $3 for every $10,000 that you invest.
Twins Rules for Financial Success
As with all of our content here we want to encourage you to follow three core rules :
- Have an Emergency Fund/Squirrel Funds
- Invest for the Long Term
- Invest Automatically & Consistently
