When I first began buying stocks, I was admittedly nervous about it. I didn't want to rely on a strategy of only buying companies I'd heard of or those that were in the news a lot. Rather, I wanted my decisions to be more data driven.
To that end, I learned more about analyzing stocks. I started looking at financial information and assessing growth potential. And in time, I managed to build a stock portfolio that consists of a wide range of companies.
These days, I continue to fill my portfolio with everything from tech stocks to REITs (real estate investment trusts). But even though I'm more than comfortable with the idea of hand-picking stocks, I'm still a big proponent of investing in index funds.
When it pays to take the easy way out
I'm hoping that the stocks I've chosen for my portfolio will perform well enough to beat the broad market. But I realize that may not happen. That's why I like to use index funds to hedge my bets.
Index funds are passively managed funds whose goal is to match the performance of the different benchmarks they're tied to. Notice how I said "match," not "beat." That's the drawback of index funds. The upside, however, is that index funds make it easy to build a diverse portfolio, and they also take a lot of stress out of the equation.
When you buy shares of an S&P 500 index fund, for example, you're effectively investing in the 500 largest publicly traded companies. The S&P 500 has a history of performing well over time, so if you buy S&P 500 index funds and leave them alone for several decades, there's a strong chance they'll gain value. This isn't to say that they'll gain more value than the individual stocks you might own, but they should still hold their own.
To me, buying index funds is a little bit like taking the easy way out on the investing front. But I don't think that's a bad thing.
The way I see it, there's more risk in owning individual companies than there is in investing in the broad market. And so I like an approach that includes a combination of both.
Plus, I love the diversification index funds offer. Granted, I make sure to put money into different sectors of the market when I buy individual stocks. But the fact that index funds lend to that easily is just another perk of buying them.
It's also worth noting that index funds don't tend to charge high fees the same way actively managed mutual funds do. As such, they're a pretty cost-effective means of building a portfolio or supplementing the stock holdings you already have.
A great long-term investment
The stock market on a whole has a history of rewarding investors who stick with it for years. Load up on index funds, and that's something you might benefit from -- even if you simultaneously continue to purchase stocks for your portfolio on an individual basis.