The stock market has been incredibly unpredictable in recent years. It has seen some of its highest highs and lowest lows, some of its busiest days and quickest week-over-week changes. For those of us who have money invested, following the market has truly made for a roller coaster ride.
As a consequence of this, many people are now pulling their money out of the market, opting instead for low-risk (and low-stress) investments such as bonds. These are the kind of people who have money to invest, are saving mainly for retirement, and have no interest in the speculative side of investing. These are the people who primarily seek to look long-term. The market is so volatile, they reason, that a long-term payoff is not worth the short-term stress. Even if stocks do go up over time, a successful portfolio still requires a certain degree of active management.
For these investors, however, index funds and ETFs provide a viable alternative to buying just stocks or just bonds. While many people already have an index fund in their portfolio, few own a portfolio solely composed of index funds. Doing so, however, comes with certain benefits that should appeal to the long-term investor:
Easy Diversification
Buying an index fund immediately provides you with a diversified portfolio. If you buy the S&P 500 Index, for example, you have just made a small investment in the 500 largest companies in America – companies that represent every possible industry. As a result, even as individual firms rise and wane over the course of time, index funds should avoid those highs and lows due to their extreme diversity. Instead of your portfolio reflecting the successes of a few limited companies, it will instead mirror the trends inherent in the economy as a whole.
Minimal Fees
The diversification offered by index funds can be mirrored, however, by purchasing mutual funds instead. But index funds have one key advantage over mutual funds: they don’t have regular management fees that can take substantive bites out of your profits. Since they are cheaper, then, and since few mutual fund managers can ever beat the market over a period of decades, there’s no reason to forsake index funds and go the mutual fund route.
Just the Right Amount of Control
Some people avoid index funds because, even though they are cheap and diversified, they provide the investor with minimal control over their investment. Even if you want a low-stress, hands-off, long-term portfolio, for example, you may still think that the greater American economy is not something you want your retirement savings to reflect. If this is the case, however, you should know that your selection of index funds does provide a significant amount of control. You don’t have to buy the S&P 500 index, after all. Instead you can buy a fund that reflects a certain country, region, or sector.
Certainly, just as with any other form of investment, index funds do carry some inherent risks. But they are all far safer and less stressful than a traditional stock portfolio, and they promise greater long-run returns than a bond or CD. After all, unless you want your savings to wither away in the face of inflation – or unless you get cash for structured settlement of some sort – you’re going to want some form of profitable investment. For those who look long-term, the index fund is a great way to go.
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