Many investors are eager to find the best assets in the world to accumulate wealth, but does the best asset truly exist? Warren Buffett once said at Berkshire Hathaway’s virtual annual meeting that instead of blindly following investment advice or spending a lot of money on stock-picking recommendations, it is better to just buy the S&P 500 index.
In fact, Buffett has been promoting the S&P index for the past 25 years. From 1993 to 2018, he recommended it a total of 14 times. Even in his will, he stated that “90% of the property should be invested in the S&P 500 index, and the remaining 10% should be invested in short-term US government bonds.” Seeing this, you must be curious as to why the S&P 500 index is favored by the legendary investor Buffett.
What is the S&P 500?
The three major stock indices in the United States are the Dow Jones Industrial Average, the S&P 500 index, and the Nasdaq Composite Index. The Nasdaq Composite Index is a stock price index of companies listed on the Nasdaq Stock Market. The Dow Jones and the S&P 500 index select high-quality companies, including those listed on the New York Stock Exchange and Nasdaq, to calculate the indices.
The S&P 500 index is a stock price index calculated based on the top 500 companies in terms of total market value on the New York Stock Exchange and Nasdaq. Unlike the Dow Jones, which calculates only 30 companies, the S&P 500 calculates 500 companies and is widely recognized as a representative stock price index of the US stock market. However, not all companies within the top 500 market value can enter the S&P 500. They must be incorporated in the US and have no deficit in the past four quarters.
The S&P 500 index includes many globally renowned companies. Apple, Microsoft, Amazon, Alphabet, Facebook, Buffett’s Berkshire Hathaway, Boeing, Coca-Cola, Goldman Sachs, IBM, Johnson & Johnson, McDonald’s, Netflix, Nike, Pfizer, Qualcomm, Starbucks, Walmart, Disney, 3M, and many other companies whose names we can easily recognize. However, this index does not include European or Asian companies.
The S&P 500 had a negative 5-year average annual return seven times in the past 50 years, and a negative 10-year average annual return two times. In 1973 and 1974, there were consecutive deficits due to the oil crisis, and in 1974, it fell by more than 20%. From 2000 to 2002, there were three consecutive deficits due to the dot-com bubble and the 9/11 attacks, leading to a significant decline in the stock market. In 2008, the financial tsunami resulted in a record decline of -37%.
Even after experiencing these major downturns, the 10-year average annual return of the S&P 500 index had negative returns only twice, and the 15-year average annual return had no negative returns. Even in the lowest-performing year, there was a return rate of 4.24%.
Based on the results, if you only look at the S&P 500, you need to invest for at least 15 years to eliminate the risk of losses. Of course, if you invest during a period of strong growth, you can make a significant profit in just 2-3 years. The 15-year investment period is based on the worst-case scenario.
Does this mean that all stock indices won’t incur losses with long-term investments of 15 years or more?
It is important to note that not all stock indices will avoid losses with long-term investments of 15 years or more. The S&P 500 includes many globally renowned companies, which is why it requires a long-term investment of 15 years or more to avoid losses.
Many stock indices, even with long-term investments of 20 years, may still result in losses. For example, the EURO STOXX 50 index, which is calculated based on the top 50 European companies, has had negative returns in the past 20 years. The Nikkei Average Index in Japan also has negative returns. In addition, although China’s Shanghai Composite Index has risen compared to 20 years ago, it is still at a level of -43% when compared to its all-time high at the end of 2007. In other words, the inclusion of globally renowned companies in a stock index affects its returns.
The 20-year average annual return of the S&P 500 index is 5.62%, and the 25-year average annual return is 9.07%. The longer the investment period, the lower the highest return rate and the higher the lowest return rate, approaching the average.
What is the annual average return of the S&P 500?
If someone invested $1 in the S&P 500 on January 1, 1970, the approximate return rate, including dividends, at the end of 2020 would be $182.05, with an annual compound return rate of 10.74%.
By investing in the S&P 500, there is no need to follow financial news every day, predict future economic growth rates, inflation rates, or oil price trends. It is also unnecessary to examine ongoing wars, predict who will be elected as the president, etc. There is no need to investigate potential industry trends, search for competitive companies, calculate the best timing to enter or exit the market, or spend effort selecting high-quality funds. By simply putting money into the S&P 500, without any further attention, a return rate of 10.74% per year can be achieved.
Why did Buffett advise his wife to invest in the S&P 500 index?
The most important aspect of investing is not having to spend a lot of time and effort after investing. One should focus their energy on their own profession. Constantly engaging in individual stock investments requires a lot of time and effort, which ultimately reduces the time available for other aspects of life, and that is regrettable.
In Buffett’s will left to his wife, he wrote that she should invest 90% of her assets in the S&P 500 index and the remaining 10% in short-term US government bonds. He said this to indicate that if one can personally achieve higher returns than the S&P 500 index, it would be ideal. However, for the average person who cannot achieve such results, achieving returns similar to the S&P 500 is sufficient.
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