While Warren Buffett ended his time as CEO of Berkshire Hathaway putting up a tremendous track record identifying individual companies to buy, his advice for the majority of investors is quite simple. He suggests buying an index fund that tracks the performance of the S&P 500.
The Vanguard S&P 500 ETF (VOO 1.17%) is a top choice. Before you add this exchange-traded fund (ETF) to your portfolio, here are three things you must know.
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1. Know what you own
This ETF owns shares of 500 or so large and profitable companies, all trading on U.S. exchanges. Investors will basically be betting on the success of the American economy, which has been a smart move historically.
But not all 500-odd stocks in the portfolio are held in equal positions. The biggest companies on the market have the highest weighting. For instance, the "Magnificent Seven" stocks combined make up 35% of the Vanguard S&P 500 ETF. Buying this investment vehicle requires at least some bullishness on the overall tech sector.
Nonetheless, this ETF is a winning solution for investors who don't have the time or the skill set to research stocks. It's a hassle-free approach.
2. This Vanguard ETF has impressive returns and low fees
There's probably no other topic that investors care about more than performance. And the Vanguard S&P 500 ETF has delivered. Over the past decade, it has generated a total return of 324% (as of Feb. 2). If you invested $10,000 in early February 2016, you'd have $42,420 today, which is an impressive gain. This certainly outperformed the majority of active fund managers.
Even better, the expense ratio of 0.03% is extremely low. Investors get to keep more of their money over time. It's hard to complain about that.
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Key Data Points
3. The current market should factor into your decision to buy
With the market trading in record territory, some investors are sounding the alarm, arguing that stocks are in a bubble and that share prices will have to come down at some point in the near future. This line of thinking is influenced by the CAPE ratio, a valuation metric that looks at the S&P 500's level relative to the average trailing 10-year inflation-adjusted earnings. The multiple is currently at 40.7. The only other time it was this high was during the dot-com bubble around the turn of the century.
While data might indicate that forward returns will disappoint, investors must understand that the market these days is being driven by powerful forces, like passive investing, favorable monetary and fiscal policy, and rising tech enterprises.
What's more, it's never a good idea to try to time the market. Long-term investors are almost always rewarded.
