Warren Buffett is one of the most famous figures in the financial world. His knack for picking stocks has made him a billionaire several times over, and it has created astonishing wealth for other investors. Shares of Berkshire Hathaway have doubled the annual return of the S&P 500 since Buffett took control in 1965.
Not surprisingly, investors often seek stock market advice from Buffett, but readers may be surprised to learn Buffett has consistently offered the same advice, as he reminded attendees at Berkshire's annual meeting in 2021: "I recommend the S&P 500 index fund, and have for a long, long time to people."
Here's how Buffett's suggestion could turn $400 per month into $847,800 for patient investors.
The Vanguard S&P 500 ETF
The Vanguard S&P 500 ETF (VOO 1.00%) measures the performance of 500 U.S. companies that include value stocks and growth stocks from all 11 market sectors. Its constituents cover 80% of the domestic equities market and more than 50% of the global equities market.
In short, the index fund lets investors spread money across many of the most influential businesses in the world. That includes enterprise software leader Microsoft, consumer electronics giant Apple, digital advertising leader Alphabet, cloud computing leader Amazon, and artificial intelligence chipmaker Nvidia.
The following chart shows the top 10 positions in the Vanguard S&P 500 ETF as of Jan. 1, 2024.
Image source: author.
Buffett believes the average person cannot pick stocks -- not because people lack the mental capacity but rather because identifying good stocks requires a level of patience and dedication to which most people are unwilling to commit.
In lieu of individual stocks, Buffett sees an S&P 500 index fund as the best option for the average person because it provides exposure to a "cross-section of businesses that in aggregate are bound to do well." Indeed, the S&P 500 has been a consistent moneymaker for patient investors.
The S&P 500 has been a surefire investment over long periods
The S&P 500 has been a profitable investment over every rolling 20-year period since its inception in 1957, and its precursor was a profitable investment over every rolling 20-year period since its inception in 1926.
Moreover, the S&P 500 increased 1,720% over the past three decades, compounding at 10.14% annually. At that pace, $400 invested monthly would be worth $80,500 in one decade, $292,000 in two decades, and $847,800 in three decades.
Some investors may not have $400 per month to invest, and others may wish to save more. Assuming an annual return of 10.14%, the following chart explores how different monthly contribution amounts would grow over time.
|
Holding Period |
$200 Per Month |
$600 Per Month |
$800 Per Month |
|---|---|---|---|
|
10 years |
$40,300 |
$120,800 |
$161,100 |
|
20 years |
$146,000 |
$438,100 |
$584,200 |
|
30 years |
$423,900 |
$1.2 million |
$1.6 million |
Data source: author. Dollar totals have been rounded to the nearest $100.
Investors can diversify their portfolios with an S&P 500 index fund
I've already mentioned that Buffett doesn't believe the average person can pick stocks, but investors shouldn't be discouraged. Anyone willing to do the requisite research should feel comfortable buying individual stocks, particularly in combination with an S&P 500 index fund.
Identifying good investments requires an understanding of individual companies and the industries in which they operate. Building that knowledge takes time, and very few people have enough time to regularly research every stock market sector, so investors can use an S&P 500 index fund to supplement their knowledge gaps and diversify their portfolios.
To be clear, diversification is not essential to making money in the stock market, but it does mitigate the risk inherent to a concentrated portfolio. I find that very compelling. I keep a large portion of my portfolio in individual stocks, many of which come from the technology sector, and I keep the rest in the Vanguard S&P 500 ETF.
I like that strategy for two reasons. First, if my individual stocks outperform the S&P 500, then my entire portfolio will beat the market. Second, if my individual stocks underperform the S&P 500, my portfolio will still perform reasonably well because the S&P 500 has returned 10.14% annually over the last 30 years.
