Warren Buffett's advice to most people trying to save up money is to buy a low-cost S&P 500 Index fund. Essentially, he's saying buy the market -- and, well, just keep buying it. If you find yourself wondering when the next bull market is coming, or the next bear market for that matter, you're not anywhere near following the Oracle of Omaha's advice. Here's what you should really be asking yourself.
The market is...variable
If you are going to invest in the stock market, one thing you are going to have to get used to is uncertainty. One day the market goes up, the next it goes down. There always seems to be a good reason for the variability, but sometimes that is an issue of hindsight being 20/20. Predicting what is going to happen is, to be kind, a difficult endeavor.
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And yet investors still can't help themselves, and they ponder if a new bull market is starting or if a bear is on the way. The implication is that if you possessed a crystal ball you would be able to buy the right investment to swiftly achieve riches. But if it were that easy, everybody would be doing it.
Trying to time the market's ups and downs is so hard the even Buffett says you shouldn't bother. What's more important is simply to be in the market for the long term. The term "long term" is really important here. That doesn't mean weeks, months, or years. It means decades. If you only expect to hold a stock for a short period of time, you can't really benefit from the long-term growth of a company, or the market as a whole.
From punting to picking
That's why Buffett says you should buy an S&P 500 Index fund and just keep adding to it. You get the benefit of broad market growth without having to do any of the heavy lifting of selecting individual stocks. Sure, you'll never outperform the market, but you also won't underperform it either. And if you stick to an option with a low expense ratio, you keep your costs down too.
Yes, you'll have to deal with the inherent ups and downs in the market. But that's an opportunity too, since you'll basically be dollar-cost averaging. When the market is down, you'll buy more. When the market is high, you'll buy less. All in all, your average purchase cost will be lower. If you reinvest your dividends you'll be compounding the income you generate as well, pushing the number of shares you own higher and higher over time.
Data source: YCharts
That said, your investment goals may not align with the total return approach that is inherent to Buffett's advice. For example, your goal may be to create passive income to live off of. In that case, an S&P 500 Index ETF, with a dividend yield of just 1.5%, may not be the right choice for you. That's OK -- but don't ignore the core advice about long-term investing inherent in Buffett's suggestion.
If income is your goal and you plan to generate it by owning individual dividend-paying stocks, then find great companies, buy them when they appear attractively valued, and hold them for the long term. A quick and dirty way to get started here is to find companies with long histories of annual dividend increases (like the Dividend Kings) and buy when their yields are historically high, which tends to happen when their shares are cheap.
Of course, you'll want to dig into the companies to make sure they have good businesses before jumping aboard. But the basic idea is that a strong dividend history can only be created by a strong company. That is why the father of value investing, Benjamin Graham, suggested something roughly similar to this approach in his investment classic The Intelligent Investor. Note, too, that Graham was one of Buffett's primary influences.
Data source: YCharts
If you are looking for some examples, try looking into Black Hills (BKH +0.01%), Texas Instruments (TXN +0.90%), and Medtronic (MDT 2.48%). All three are out of favor of late, but have good businesses and strong histories of success. Oh, and historically high yields that hint that now might be a good time to start a position if you intend to hold onto the stocks for decades. It is also worth highlighting that each of these stocks hails from a different sector (utilities, technology, and healthcare, respectively), proving that you can build a diversified portfolio with this approach.
Throw in the market-timing towel
It is interesting to watch Wall Street gyrate, but it is virtually impossible to predict where it will go next. And even if you call it right once, you probably won't be able to repeat that success enough times to make it worthwhile continuing to try. It is much better to find an investment approach that works for you (broad-based index funds or long-term investment in individual stocks) and stick to it through thick and thin. It may not be as exciting, but it is likely to be more profitable over the long term.
In other words, instead of asking where the market is going next, ask what types of investments you'd want to own for "forever".
