Investing in the stock market is one of the easiest and most effective ways to build long-term wealth, but choosing the right investments is critical.
There are seemingly endless options, from low-cost index funds to individual stocks. There’s not necessarily a right or wrong answer when it comes to where you invest, as it will largely depend on your personal preferences. Here’s how to decide whether S&P 500 index funds or individual stocks are a better fit for your portfolio.
S&P 500 index funds: What you need to know
An S&P 500 index fund is a type of investment that aims to track the S&P 500 index itself. In other words, it includes the same stocks as the index and mirrors its performance over time. Some of the most popular S&P 500 index funds include the Vanguard S&P 500 ETF (NYSEMKT: VOO), iShares Core S&P 500 ETF (NYSEMKT: IVV), and SPDR S&P 500 ETF Trust (NYSEMKT: SPY).
There are several advantages to investing in S&P 500 index funds. For one, it’s a relatively effortless way to grow your savings over time. With compound earnings, the longer you leave your money invested, the more you’ll earn. All you have to do, then, is invest a little each month, then let the fund take care of the rest.
Also, S&P 500 index funds are generally safer during periods of volatility. While your investments will likely take a hit in the short term during downturns, the S&P 500 has a long history of recovering from crashes, bear markets, and recessions.
To be clear, it can sometimes take months or even years for the market to fully recover. But by investing in an S&P 500 ETF, your portfolio is almost guaranteed to rebound eventually. That can be a significant advantage right now as we face more economic uncertainty.
Individual stocks thrive where funds fall short
The biggest disadvantages of S&P 500 index funds are that they cannot be customized, and they can only earn average returns — and these are the areas where individual stocks shine.
When you invest in an S&P 500 index fund, you have no choice but to own all of the stocks within the index. If there are certain companies you’d rather avoid, you’re out of luck. However, investing in individual stocks gives you full control over every aspect of your portfolio.
Also, because S&P 500 index funds track the market, it’s impossible for them to beat the market. For many people, this is a worthwhile trade-off for the safety and ease of this investment. But if your goal is to earn as much as possible and try to beat the market, individual stocks are the way to go.
One downside to investing in individual stocks, though, is that it’s more time-consuming. It’s crucial to thoroughly research every stock you buy, digging into the company’s financials, leadership team, and competition within its industry. Not everyone has the time (or interest) for this much research, which can be a drawback.
Which one is right for you?
Your personal preferences and tolerance for risk can help you decide whether S&P 500 index funds or individual stocks are right for you.
S&P 500 index funds may be a better fit for those who:
- Prefer a hands-off, “set it and forget it” type of investment
- Want a lower-risk investment, especially during periods of stock market volatility
- Are willing to sacrifice above-average returns in exchange for a simple, safer investment
On the other hand, individual stocks may be a better option for those who:
- Want full control over their portfolio and the stocks within it
- Are willing to spend time researching individual stocks and companies
- Can tolerate higher levels of risk for the chance to beat the market
Both S&P 500 index funds and individual stocks can be fantastic investments, but the right option for you will depend on your investing preferences. By considering your tolerance for risk and how much effort you’re willing to put into your portfolio, it will be easier to decide which investment is best for your situation.
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