After months of remarkable growth, the stock market took a turn for the worse in early September and is now veering into correction territory, meaning it's fallen by at least 10% from its most recent peak. And as the COVID-19 pandemic rages on and Americans face an uncertain upcoming election, there's a chance the market could become even more volatile in the coming months.
While it's uncertain whether a full-fledged market crash is on the horizon, it's a good idea to prepare your investments for the worst just in case. And if you're concerned about losing money, there are three reasons why you might want to invest in ETFs rather than individual stocks.
1. They provide instant diversification
Exchange-traded funds (ETFs) are essentially large groupings of stocks, bonds, or other securities all lumped together into a single investment. Some ETFs contain hundreds or even thousands of stocks, and that instant diversification can lower your risk substantially.
When you're investing, you don't want to put all your eggs in one basket. If you're investing in individual stocks, it's wise to invest in at least 10 to 15 different companies to limit your risk. That can get expensive, though, and your portfolio could still take a tumble if even one or two of those stocks don't perform well.
With an ETF, however, you can invest in hundreds of different stocks without breaking the bank. Even if several of those stocks nosedive, it likely won't make a significant dent in your portfolio.
2. Index ETFs are very likely to bounce back from a crash
There are different types of ETFs out there, and one of the most popular options is the index ETF. Index ETFs track stock market indexes, such as the S&P 500 or the Dow Jones Industrial Average, meaning the ETF contains all the stocks within the particular index it tracks. Index ETFs are among the safest investments out there, because the indexes themselves have always managed to recover from past market crashes.
In the short-term, the stock market may face extreme volatility. But over the long run, these indexes experience positive returns. And because index ETFs simply follow the market, they're very likely to recover from even the worst market crashes.
3. It's easier to invest in a particular industry while limiting your risk
The downside to index ETFs is that you have no say in the companies that are included in the index. But even if you're more of a hands-on investor who wants greater control of the companies you invest in, there's likely still an ETF out there that will fit your needs.
There are seemingly unlimited ETF options out there, from broad funds that track the entire stock market to narrow investments that focus on a certain industry or sector. Some ETFs only include tech stocks. Others may be limited to real estate companies, healthcare organizations, or even pet care brands.
If you want to take a more personalized approach to investing, you may opt to invest in industry-specific ETFs. The advantage here over individual stocks is that each ETF contains multiple stocks -- so you're still diversifying and limiting your risk.
The future of the stock market may be uncertain, but that doesn't mean it's a bad time to invest. As long as you're investing in the right places and doing your best to limit your risk, you can set your investments up for long-term success.