Regarding investing, few options are more widely recommended and trusted than the S&P 500. For decades, it has been one of the go-to investment choices for everyone from individual savers to institutional investors. But why do so many people invest in the S&P 500, and what makes it one of the safest long-term investments?
What is the S&P 500?
The S&P 500 (Standard & Poor’s 500) is an index that tracks the performance of 500 of the largest publicly traded companies in the United States. These companies span multiple industries, making the index a broad representation of the U.S. economy. Some of the most well-known companies in the world—like Apple, Microsoft, Amazon, and Tesla—are part of this index.
The S&P 500 is a market-capitalisation-weighted index, which means that the most prominent companies significantly influence the index’s overall performance. This is because the index is not just a simple average of stock prices; it gives more weight to companies with higher market capitalisation. For example, if a company like Apple experiences significant growth, it will have a more substantial impact on the S&P 500 than a smaller company in the index.
Why Do So Many People Invest in the S&P 500?
Diversification
One key reason investors choose the S&P 500 is the diversification it provides. Diversification involves spreading your investments across different assets to reduce risk. Instead of buying shares in just one or a handful of companies, investing in the S&P 500 exposes you to 500 large-cap companies from various sectors. Diversification spreads risk across different industries and reduces the likelihood of a sharp decline due to poor performance in a single company or sector.
For example, while the technology sector might face challenges during a specific period, companies in the healthcare, consumer staples, or financial services sectors could perform well, balancing out the overall performance of the index.
Historical performance
Another reason the S&P 500 is so popular is its firm historical performance. Over the long term, the S&P 500 has delivered an average annual return of around 10%. This figure, which includes periods of market volatility, such as the 2008 financial crisis or the COVID-19 pandemic, instils confidence in investors, as the index has consistently bounced back and continued to grow over time.
This long-term growth makes the S&P 500 particularly appealing for investors with a long-term horizon, such as those saving for retirement. By remaining invested and riding out short-term market fluctuations, investors in the S&P 500 have historically been able to grow their wealth steadily.
Low Costs
Investing in the S&P 500 is also incredibly cost-effective. Many financial institutions offer index funds or exchange-traded funds (ETFs) that track the S&P 500. These funds typically have low management fees, often as low as 0.03% or 0.04% per year.
Since these funds aim to replicate the performance of the S&P 500 rather than beat it, they don’t require expensive active management, allowing fund providers to keep fees low. Low costs are crucial in the long term because high fees can erode returns.
Simple, Passive Investing
For many investors, especially beginners, simplicity is vital. Investing in the S&P 500 provides a passive approach to investing, meaning you don’t have to spend time researching individual stocks or timing the market. This straightforward process allows you to comfortably invest in the market without the complexity of managing an active portfolio.
With an S&P 500 index fund or ETF, your money is automatically spread across 500 of the largest companies in the U.S. This makes it an ideal option for those who want exposure to the stock market without the complexity of managing an active portfolio.
Exposure to Leading Companies
The S&P 500 contains many of the world’s largest and most successful companies. These companies are often blue-chip stocks, which are well-established, financially sound, and have a history of reliable performance.
Investing in the S&P 500 exposes you to industry leaders like Apple, Microsoft, Alphabet (Google), Amazon, Tesla, and Facebook. These companies drive innovation, generate consistent revenue, and pay dividends.
Being part of the S&P 500 also means that each company has been vetted against specific financial and market criteria, ensuring that only quality businesses participate in the index.
A Trusted Benchmark
The S&P 500 is frequently used as a benchmark for measuring the performance of other investments. Fund managers, institutional investors, and financial analysts often compare their portfolios against the S&P 500 to assess their performance. If a fund manager can’t consistently outperform the S&P 500, many investors prefer to simply invest in an S&P 500 index fund to match the market’s returns.
The S&P 500’s popularity is further contributed to by its wide use as a benchmark, which gives investors confidence in its ability to reflect the overall health of the U.S. economy.
Why is the S&P 500 Considered One of the Safest Long-Term Investments?
Long-Term Resilience
The S&P 500 is considered one of the safest long-term investments because of its remarkable resilience. While the market can be volatile in the short term, the S&P 500 has consistently recovered from downturns, giving investors a sense of reassurance and confidence in the index’s ability to weather market storms.
For example, during the 2008 financial crisis, the index dropped sharply but fully recovered and surpassed its previous highs within a few years. Similarly, the COVID-19 pandemic caused a rapid decline in early 2020, but by the end of the year, the S&P 500 had rebounded and reached new record highs.
This ability to weather downturns and consistently grow over the long term makes the S&P 500 a safe option for investors who are patient and focused on long-term growth.
The Power of Compound Growth
Investing in the S&P 500 also allows investors to maximise compound growth. By reinvesting dividends and remaining invested over time, investors can benefit from the compounding effect, where returns generate further returns.
For example, if you invest $10,000 in an S&P 500 index fund and earn an average annual return of 10%, your investment could grow to $25,937 in 10 years, even without adding more capital. Over 20 years, that investment could grow to $67,275, demonstrating the powerful effect of compounding over time.
The key is to remain invested long-term and avoid the temptation to pull out of the market during short-term downturns. Doing so gives your investment time to grow and compound, ultimately leading to more incredible wealth.
Inflation Protection
One concern for investors is inflation, which erodes money’s purchasing power over time. While keeping money in a savings account might feel safe, low interest rates often don’t keep up with inflation, meaning your savings lose value in real terms.
By contrast, the S&P 500 has historically outpaced inflation, providing real growth in purchasing power. While stocks can be volatile in the short term, investing in the S&P 500 over the long term has been a reliable way to preserve and grow wealth beyond inflation.
Market Capitalisation Weighting
The S&P 500’s market-capitalisation-weighted nature also provides a layer of protection. Since larger companies have a more significant influence on the index, it’s less likely to be swayed by smaller, more volatile stocks. This disposition safeguards against excessive volatility, as the most stable and established companies are the biggest drivers of the index’s performance.
Proven Track Record
The S&P 500’s long track record of delivering returns to investors further cements its reputation as a safe long-term investment. The index has survived and thrived through numerous market crashes, geopolitical events, economic crises, and technological revolutions. Despite these challenges, it has continued to grow and reward patient investors.
Few options have a more proven track record of building long-term wealth than the S&P 500.
How to Invest in the S&P 500
Investing in the S&P 500 is simple. The most common way to do so is by purchasing shares in an S&P 500 index fund or ETF. These funds are designed to track the S&P 500’s performance and typically have very low management fees.
You can invest in these funds through any major brokerage or investment platform, and many offer options for regular contributions, allowing you to invest dollar-cost average into the market over time.
The Bottom Line
Investing in the S&P 500 has become one of the most popular and trusted ways to build wealth over the long term. Its diversification, historical solid performance, low costs, and passive nature make it ideal for many investors. While no investment is without risk, the S&P 500’s resilience and ability to deliver consistent returns make it one of the safest long-term investment options.
Whether you’re just starting or looking to grow your wealth over time, the S&P 500 offers a proven path to financial success. By staying the course, reinvesting dividends, and taking advantage of compound growth, you can leverage this robust index to achieve your long-term financial goals.
