- You can invest in the S&P 500 via mutual funds or ETFs that contain all the S&P index’s listed stocks.
- S&P 500 index funds offer a low-cost, low-risk way to invest in a representative array of major US companies.
- Though diversified, S&P 500 funds omit growth and foreign stocks, which can impact their gains.
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In the investment and financial world, one of the most commonly cited and closely watched benchmarks is the Standard & Poor’s 500 Index or S&P 500 for short. Its moves are widely considered to be a proxy for the performance of the stock market overall. Individual stocks, stock funds, and other assets are all compared against it.
The S&P 500 “is by far, the most widely used indicator of investment success or failure,” says Cory Clark, chief marketing officer at DALBAR, Inc., which evaluates and audits business practices.
If you subscribe to the belief – as many do – that investing in a representative sample of the entire market ultimately yields better returns than trying to pick individual winners, the S&P 500 is one of the best samples available.
Unfortunately, you can’t directly invest in the S&P 500 – it’s a stock market index, or group of stocks, not an individual stock itself. But there are vehicles that you can invest in, called index funds, that act as a proxy for this proxy – duplicating its list in their portfolios, and mimicking its performance.
Here’s how investing in the S&P 500 works.
Why invest in the S&P 500?
But first, a quick look at the S&P 500 index itself. Founded in 1957, it includes 500 of the largest US-based public companies (it actually has 505 stocks because some companies issue more than one class of stock shares). It’s what’s known as a weighted index, meaning companies with a higher market capitalization, or valuation, carry more clout in the calculations, so the overall index correlates more closely to the broader market.
The S&P 500’s worth is cited in dollars, the collective value of the stock shares within it. In January 2021, it stood at $3,750. Over the past 10 years, the S&P 500 has posted annualized returns of 11.18%.
Although it’s limited to large-cap companies, the S&P 500 is diverse enough “to reflect all major sectors of the economy,” says Clark – from industrials to information tech to consumer goods to health care. The companies within it are collectively worth about 80% of US stocks’ total value.
So if you want to invest in the spectrum of the US stock market, and in effect the US economy, the S&P 500 is a good entry point.
How can I invest in the S&P 500?
You can’t actually invest in the S&P 500 – it’d be like trying to buy a list of groceries, instead of the groceries themselves. Instead, you invest in the S&P 500 through index funds. They’re like baskets that contain all the groceries on the S&P list.
An index fund is a type of financial vehicle designed to mimic a particular market index. It pools investors’ money to purchase a portfolio of stocks or other securities. In the case of S&P 500 index funds, the stocks are those of the companies listed in the S&P 500.
Most index funds are “passively managed,” meaning the investment professionals overseeing them don’t trade the holdings very much. Their goal is to duplicate the index’s make-up and performance, instead of trying to beat it. Index funds appeal to long-term-oriented, buy-and-hold investors, who like to let their assets grow on auto-pilot.
Types of S&P 500 index funds
S&P 500 index funds come in two basic types: mutual funds and exchange-traded funds (ETFs).
Both contain portfolios that invest in the companies of the S&P 500. “The main difference between a mutual fund and an ETF is that an ETF can be traded throughout the day, like a stock,” says Jay R. Ritter, the Joseph B. Cordell Eminent Scholar Chair at the University of Florida’s Warrington College of Business. In contrast, mutual fund shares are priced and traded at the end of the day.
Also, mutual funds often have a higher minimum investment than ETFs – sometimes, a few thousand dollars. ETFs shares are priced like individual stock shares; prices range, and you can buy as many or as few as you wish. The initial investment in an ETF is often lower
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Overall, though, “ETFs and mutual index funds are more alike than different,” according to Milo Benningfield, a certified financial planner and founding principal of Benningfield Financial Advisors. “They’re all pooled investment vehicles.”
Do some S&P index funds perform better than others?
S&P 500 index funds may differ slightly in the exact makeup of their portfolios. The Vanguard S&P 500 Growth ETF, for example, emphasizes the growth-oriented companies in the S&P 500 (ones expected to appreciate faster than average stocks). The Invesco S&P 500 High Dividend Low Volatility ETF specializes in stocks that offer especially strong dividends.
But they’re all tracking the same basic index, so the results are pretty similar. Funds generally post an annual yield within a percentage point or so of each other.
What can impact performance – and of course, affect your returns – are the collective annual fees a fund charges, known as the expense ratio. When comparing a fund’s yields, it can help to dig a little to see if they’re net of expense ratios, or research and other costs that can drag down an investor’s return.
That kind of information is usually available in the fun’s prospectus, or through online financial sites. “Index fund fees often range from a low of about .05% [of a client’s invested assets] to 0.5%,” according to Ritter. Mutual funds’ fees tend to be higher than those of ETFs’.
Otherwise, “the decision of which fund to go with “sometimes comes down to a matter of convenience, notes Benningfield, “since providers like Vanguard offer access to a host of index and other funds in one location.”
How to invest in S&P 500 index funds
All the leading brokerages and financial services companies offer S&P 500 index funds, both the traditional firms like Charles Schwab, Fidelity, and Vanguard and online trading platforms and apps, like Robinhood and Stash. S&P 500 index funds are particularly popular with robo-advisors like Wealthfront and Betterment, which use computer algorithms to invest and periodically rebalance investors’ portfolios.
Some of the leading S&P 500 index funds include:
Historical note: Vanguard Group founder John C. Bogle created the concept of an index fund for individual investors in 1976, with Vanguard’s First Index Investment Trust. Composed of S&P 500 stocks, it was ridiculed as “un-American” and “a sure path to mediocrity,” according to a Vanguard history site. During its initial underwriting, the fund only collected $11 million; but today, the Vanguard 500 Index Fund (as it was renamed) has grown to be one of the industry’s largest funds – and one of its most successful.
What are the upsides of S&P 500 funds?
- They’re a good proxy for stocks overall. An S&P 500 Index fund tends to correlate “more closely to the broader market, so it’s better than some other indexes, like the Dow Jones Industrial Average), which only tracks 30 stocks,” says Ritter. In 2020, for example, the Dow climbed 7.2%, but the S&P 500 gained nearly 16%.
- They’re low-risk. Any fund offers the safety of diversification. With 500+ stocks in their portfolio, S&P 500 funds are especially diversified, their securities representing a range of industries. The companies within them tend to be safe, stable, blue-chip companies like Visa, Procter & Gamble, Johnson & Johnson, and Berkshire Hathaway.
What are the downsides of S&P 500 funds?
- They have investment gaps. The S&P 500 index “tends to be dominated by the largest companies, Benningfield says, “and it’s also limited to companies with a US headquarters.” So a major e-commerce business like Alibaba.com, which is based in China, wouldn’t be included in an S&P 500 index fund. Nor would a small but fast-rising domestic corporation. Tesla is a case of an up-and-comer that wasn’t included for years (it did ascend to the index in December 2020).
- They may not post the strongest returns. The diversified, passive approach of S&P 500 funds – like most index funds – means an investor’s downside is generally limited. But so is the upside: There’s less of a chance to make a killing by betting on a winner. Even if a fund did, it might not benefit as much, since the returns would be mitigated by the other holdings in the portfolio.
The financial takeaway
The S&P 500 is a grouping of stocks, not the stocks themselves, so there’s no way to directly invest in it. But S&P 500 index mutual funds and ETFs buy securities that track or duplicate the index – and investors can buy shares in them.
An S&P 500 index fund furnishes an excellent entry into the stock market, since it offers a broad – though not perfect – representation of many publicly traded securities. For the most part, the minimum initial investment and recurring fees are low, and the autopilot approach of an index fund frees an investor from doing their own research on multiple companies.
The diversified nature of S&P index funds means that an investor probably won’t score big from a fast-growth stock – but also won’t have to stay up nights worrying about investing in a lemon of a company. If you want to own a broad slice of the US’ biggest and best securities, says Benningfield, “an S&P 500 index fund is a great place to start.”