Warren Buffett is one of the most accomplished investors in history. His knack for evaluating businesses and picking stocks has not only made Berkshire Hathaway one of the largest companies in the world, but also helped him amass a personal fortune totaling more than $100 billion.
Those bona fides make Buffett an excellent source of inspiration, and one piece of advice stands out from the plethora of wisdom he has imparted over the years. When asked for investment ideas, Buffett has consistently recommended an S&P 500 index fund, calling it the most sensible option for most investors.
Here’s why.
The S&P 500 provides diversified exposure to the U.S. stock market
Index funds come in countless shapes and sizes, but they all track a specific market benchmark. Some are very narrow in scope, such as artificial intelligence-focused index funds, while others are much broader. S&P 500 index funds like the Vanguard S&P 500 ETF (VOO) lean toward the broad side of the spectrum, and that breadth is important because it offsets the risk inherent to narrower portfolios.
Specifically, the Vanguard S&P 500 ETF measures the performance of 500 large-cap American businesses, inclusive of value stocks and growth stocks, from all 11 stock market sectors. It covers about 80% of the U.S. equities market and 50% of the global equities market, meaning investors get exposure to many of the most influential businesses on the planet.
The 10 largest holdings in the Vanguard S&P 500 ETF are detailed below, ranked by weighted exposure.
- Apple: 7.7%
- Microsoft: 6.8%
- Alphabet: 3.6%
- Amazon: 3.1%
- Nvidia: 2.8%
- Tesla: 1.9%
- Meta Platforms: 1.7%
- Berkshire Hathaway: 1.6%
- UnitedHealth Group: 1.2%
- ExxonMobil: 1.2%
Buffett sees that diversity as a compelling investment thesis. He once described the S&P 500 as a “cross-section of businesses that in aggregate are bound to do well,” and he has consistently cautioned investors not to bet against America.
The S&P 500 regularly outperforms professional money managers
S&P 500 index funds allow the average investor to build a diversified and performant portfolio without paying exorbitant fees to a financial professional. Buffett finds that value proposition quite attractive. In fact, he once asserted that the know-nothing investor can actually outperform most financial professionals by periodically purchasing shares of an S&P 500 index fund.
Historical data backs that claim. More than 86% of large-cap funds underperformed the S&P 500 over the last five years, and more than 93% of large-cap funds underperformed over the last 15 years, according to S&P Global. That is so important that I’ll say it again: Most people could make more money by purchasing an S&P 500 index fund than they otherwise would by relying on a financial professional.
The S&P 500 has been a clockwork moneymaker
Stock market exposure is never risk-free, but the S&P 500 has been a consistent moneymaker throughout history. The index was a profitable investment over every rolling 20-year period since its creation in 1957, and its forerunner was a profitable investment over every rolling 20-year period since its creation in 1926.
I’m not talking about meager profits, but rather robust returns. The S&P 500 rose 1,730% over the last three decades. That is equivalent to 10.17% annually for 30 consecutive years, but I’ll round down to 10% to introduce a small margin of safety. At that pace, $500 invested monthly in an S&P 500 index fund would be worth $99,900 in one decade, $359,100 in two decades, and $1 million in three decades.
The chart below details how different monthly contribution amounts would grow over time, assuming an annual return of 10%.
As shown above, small sums of money invested regularly in an S&P 500 index fund can grow into a substantial nest egg over time. The only secret is patience. The S&P 500 will have good years and bad years in the future, but investors who eschew market timing strategies in favor of consistent contributions will undoubtedly be well rewarded in the long run.
— Trevor Jennewine
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Source: The Motley Fool