Investing in 2020 has been like trying to assemble Ikea furniture. You have all the tools needed to be successful, but all you have for instructions are poorly drawn stick figures offering little direction. In other words, you know you're in for a ride.
During the first quarter, investors experienced the wildest bear market decline in stock market history. It took less than five weeks to erase more than a third of the S&P 500's (SNPINDEX:^GSPC) value. Then again, investors also witnessed the quickest recovery from a bear market low of all time, with the benchmark S&P 500 hitting fresh highs just five months after its March 23 low.
Things have remained highly volatile and uncertain for equities, but that doesn't mean investors should be cowering in fear or heading for the sidelines. If we've learned anything over the years, it's that sizable corrections or crashes in the stock market are always buying opportunities, assuming you have a long-term mindset. Every single correction in history has eventually been put into the rearview mirror by a bull market rally.
You also don't need to be rich to make money in the stock market. With most brokerages going to a commission-free trading platform, eliminating or lowering account minimums, and potentially offering fractional-share purchases, your road to financial freedom can begin with just $500.
If you have $500 to spare that won't be needed to pay bills or cover an emergency, here are four smart ways to put it to work in today's stock market.
Buy an index ETF
It might be a completely boring idea, but investing in an index-tracking exchange-traded fund (ETF) has been a proven moneymaker for investors over the long run. That's why investors should consider putting their money to work in the Vanguard S&P 500 ETF (NYSEMKT:VOO).
As the name implies, the Vanguard S&P 500 ETF is designed to closely mirror the performance of the widely followed S&P 500. Vanguard's money managers will attempt to mimic the performance and weighting of that index to the best of their ability, and the annual net expenses ratio for this mirroring is a mere 0.03% of your invested capital. That nominal fee will be more than paid back via the nearly 1.9% yield you'll receive from the many companies within the S&P 500 that pay a dividend.
What's more, the S&P 500 has never had a negative average annual return over any rolling 20-year period in the past 100 years. In fact, investors would have received a double-digit compound annual return close to 40% of the time, based on 20-year rolling periods, over the trailing century. The Vanguard S&P 500 ETF may be boring, but it's an undeniable moneymaker.
Dividend stocks have your back
Another smart way to invest $500 is to put it to work in high-quality dividend stocks. While dividend payers are often mature and sometimes boring businesses, they're also profitable and time-tested.
Perhaps more importantly, dividend stocks offer a history of outperformance. Bank of America/Merrill Lynch released a report in 2013 that compared the performance of publicly traded companies that initiated and grew their payout between 1972 and 2012 to publicly traded companies that didn't pay a dividend. Over this 40-year stretch, the dividend-paying companies returned 9.5%, on average, each year. Meanwhile, the non-dividend payers hardly budged, with an annual average return of a meager 1.6% between 1972 and 2012. Dividend stocks have run circles around their non-dividend counterparts for a long time.
A particularly intriguing name here, and a company I've recently purchased for my own portfolio, is pharmacy chain Walgreens Boots Alliance (NASDAQ:WBA). Walgreens was clobbered by the coronavirus shutdowns throughout much of the United States. However, the company's operating model remains well intact. It should see a growing number of aging Americans needing their prescriptions filled, and its efforts to engage patients with chronic illnesses at the community level via health clinics and partnerships should pay off.
Don't forget about growth stocks
Even though growth stocks are likely to carry a premium valuation and therefore will be the most prone to wild vacillations in a volatile market, investors would be smart not to forget about them.
You see, when the U.S. economy struggles, the Federal Reserve comes to the rescue. It's already reduced its federal funds rate back to an all-time record-tying low and has mentioned plans to keep lending rates near historic lows for many years to come. This might as well be an open invitation for high-growth companies to borrow at record-low rates in order to expand their reach. In other words, high-growth companies have easy access to capital that could well justify aggressive valuations.
For example, cloud-native security solutions company CrowdStrike Holdings (NASDAQ:CRWD) isn't cheap. Buyers today would be paying about 28 times next year's estimated sales. But CrowdStrike also has a pretty clear path to tripling its annual sales in a three-year stretch
Furthermore, CrowdStrike is seeing its existing clients grow and spend more for its protection services. In the recently completed quarter (fiscal Q2 2021), 57% of the company's customers had subscribed to four or more cloud modules. Comparatively, only 9% had subscribed to four or more cloud modules back in Q1 2018 (13 quarters ago). This is exceptional high-margin growth, and the current environment can support premium valuations.
Value stocks aren't a bad idea, either, if you're thinking long term
Finally, putting $500 to work in value stocks might also be a good idea, especially if you have a long investing horizon.
Back in 2016, Bank of America/Merrill Lynch released a report that examined growth stocks versus value stocks over a 90-year period (1926-2015). Although growth stocks have left value stocks in the dust since the Great Recession, it's actually value stocks that offer the higher average annual return (17% versus 12.6%) over 90 years. Value stocks also have a history of outperforming during periods of economic expansion, and it seems like the U.S. economy is headed in that direction in the years to come.
When I think of value, bank stocks come to mind -- especially U.S. Bancorp (NYSE:USB). Though bank stocks will see their interest income-earning power hurt in the near term by low lending rates, the positive here is that interest rates have nowhere to go but up over the long run.
As for U.S. Bancorp, it's avoided the pitfalls that have traditionally plagued money-center banks and stuck to the bread-and-butter of banking profitability -- growing loans and deposits. At the same time, it's seen a significant increase in digital engagement among its customers, with the percentage of retail loans originating from an online or mobile transaction jumping from 25% to 46% in just two years. This has allowed U.S. Bancorp to close some of its branches and reduce its noninterest expenses.
At only 17% above its book value, U.S. Bancorp is as cheap as it's been since the height of the Great Recession.