What Happens If You Only Invest In Index Funds for 30 Years?
If you invested only in index funds for 30 years, you’d by definition have an “average” return. But here’s the thing — most investors, even professional ones, can’t outperform the S&P 500 stock index consistently over time.
With that in mind, a so-called “average” return actually looks pretty good, especially when you factor in the lower costs, stress and effort you’d have to put into the endeavor.
So what if you'd put all your eggs in that one basket for three decades?
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What Does It Mean To Invest In an Index?
Index funds track the performance of a market benchmark, like the S&P 500. While most investors have a stated goal of beating the market averages, an index fund investor is content to accept what the market gives.
Rather than picking individual stocks, an index gives you immediate exposure to a variety of stocks in a single investment, such as the 500 stocks in the S&P 500 index. This provides a greater level of diversification and reduces the risk of owning a single stock.
The Pros and Cons of Index Investing
Every investment has pros and cons. Here are the ones you should consider before you own an index fund:
Pros
Low costs make a real difference: Index funds tend to be very low-cost, which is why they can provide returns close to the underlying index they track. Research from Morningstar consistently shows that lower-cost funds tend to outperform higher-cost peers over long horizons.
Most active managers don’t outperform: The SPIVA scorecards from S&P Dow Jones Indices show that nine out of 10 active fund managers underperform their benchmark over time, especially over 10- to 15-year periods.
They are simple: The path to long-term financial success doesn’t have to be complex. By keeping your investment plan simple, you’re more likely to follow it. Being in the market, rather than trying to get clever and trade around it, often leads to much better long-term results.
Cons
You’ll never beat the market: By definition, if you invest in an index fund, you’ll never outperform the market. In fact, thanks to fees — even tiny ones — you’ll generally trail the return of an index by a small amount.
You’re fully exposed to downturns and bear markets: If the stock market falls by 50%, your portfolio will also. More active investors often hedge their bets and buy defensive stocks or even take profits if markets begin to sell off.
You’ll own a large number of underperforming stocks: Although the overall return of an index like the S&P 500 can be impressive, you’ll own literally hundreds of stocks that produce below-market returns when you own an index. Individual investors can potentially screen out those stocks.
What If You Only Invest In Index Funds Over 30 Years?
In exchange for giving up the potential of outperformance by picking exceptional stocks, index funds give you returns close to the overall market. But historically, that has been more than enough to build substantial wealth. According to S&P Dow Jones Indices, the S&P 500 has returned an average of 9% to 10% per year over many decades. By owning index funds, you can benefit from the compounding effect of these returns over time.
This article was provided by MoneyLion.com for informational purposes only and should not be construed as financial, legal or tax advice.
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