The Key to Safer Investing

When it comes to investing in the stock market, many people think they need to find the next Google (GOOGL), Apple (AAPL), or Tesla (TSLA ) to hit it big and become rich. Time and time again, people say they wish they had a crystal ball 10-20 years ago and had invested in these up-and-coming companies before they became some of the most successful businesses in the world. However, finding the next great stock is much easier said than done. Most have heard stories of someone losing all their money in the stock market, thinking they found the next big thing. Many people are hesitant when it comes to putting money in the stock market; in fact, 45% of Americans do not own a single stock. Investing in the stock market doesn’t need to be intimidating, nor does it need to involve high risk. Investing in the S&P 500 can be a smart move for risk-averse investors who still want to see financial returns over time.

Risk is the biggest factor to consider when deciding where (and whether) to invest. How much risk are you willing to take to seek a higher reward? Investing in an individual stock can be a high risk; if the stock tanks and never recovers, you will have lost your entire investment. This is why experienced investors practice diversification, which is a risk management strategy that combines a variety of investments within a portfolio. The S&P 500 is a stock market index that tracks 500 publicly traded, large-cap US companies. Investing in the S&P 500 means that your investmentment is spread out across the 500 companies, thus achieving portfolio diversification. The indexes that track S&P 500 have a secret strength when it comes to risk; since there are 500 different stocks that make up the index, a poor performance from a few stocks will have relatively little impact on the overall index fund price. This is because a normal to strong performance from the other stocks in the index fund counteract the poor performance of a few stocks. For example, let's say ten companies’ stock prices tank for some reason or another. As long as the other 490 companies perform as usual, you will still make a profit. This is the power of the S&P 500: as long as a majority of the stocks perform well, you will make a profit. The S&P 500 significantly decreases risk because it is unlikely that every corporation will tank at the exact same time. The main draw of the S&P 500 is low risk, which practically ensures profit in the long run. In fact, the annual return of the S&P 500 over the last 10 years is 12.5% which is extremely high.

This graph shows the S&P 500 over the last five years, clearly showing why this is such a great investment option. Notice how the graph is consistently climbing, and there are no successive rises and falls in the graph. The only noticeable dip can be seen in March of 2020 when COVID-19 significantly impacted every company in the United States. However, even with this setback, the S&P 500 was able to recover relatively quickly and even got back on pace as if the pandemic never even occurred. 

Another consideration that needs to factor into the decision to invest is money. As alluded to earlier, around 55% of Americans own stocks. It’s important to note, however, that stock ownership is concentrated among high-income demographics. For example, in 2020, 77% of households that made less than $40,000 per year didn’t own any stocks. Comparatively, only 15% of households earning more than $100,000 per year weren’t invested in some form of stock. While most people do not have the disposable income to invest in an entire share of Amazon (AMZN) or Tesla (TSLA), many cab still afford less pricey stocks that could still make them a lot of money. Companies like Vanguard (VOO), ishares (IWM), and SPDR (SPY) offer multiple index funds that track the S&P 500, and are more affordable than the big name, more expensive stocks.

Now you may be wondering, what’s the catch? How can an investment be relatively low risk, affordable, and still make you a lot of money? As much as I would like to say that there is no catch, that is not necessarily true. Low risk and affordability are staples of index fund investing; however, you will not see significant returns unless you have time on your side as well. For example: let’s say that your starting investment is $10,000 and you contribute $100 per month. After this, the only factor that matters is time. Let’s compare the end value of this investment after five, thirty, and thirty five years, using the general 12% average annual return of the S&P 500. After five years, your ending value would be $25,657.54. This means you could more than double your investment within five years. Looking further into the future, after thirty years your ending value would be $604,800.55. Pretty impressive, sure, but if you wait an additional five years, the ending value is $1,037,899.35; that is almost a $400,000 dollar difference. The factor of time is extremely important. By simply adding 5 years onto your investment timeline, you can accrue an additional $400,000 more in the long run. The more time goes by, the more drastic the effect. It is vital to start investing in S&P 500 index funds so that you have as much time as possible on your side. 

It is very difficult to find the next big stock that is going to erupt; consequently, investors can lose a lot of money in the stock market trying to hit it big. Instead of trying to find the one-in-a-million company to skyrocket, I am encouraging people, who favor safe investments, to invest in index funds that track the S&P. These index funds have returned 12% annually for the last 10 years and become exponentially more profitable the longer you hold on to them.