Warren Buffett ranks among the most successful investors in American history. Under his leadership, Berkshire Hathaway's share price has grown at 20% annually since 1965. By comparison, the benchmark S&P 500 (^GSPC -1.11%) has returned about 10% annually, including reinvested dividends, during the same period.
Consequently, many investors avidly track the stocks Buffett is buying and selling with SEC Forms 13F. But most investors ignore of his most prudent pieces of advice. "In my view, for most people, the best thing to do is to own the S&P 500 index fund," Buffett said at Berkshire's annual meeting 2021. He has often repeated that advice, and has specifically suggested the Vanguard S&P 500 ETF (VOO -1.04%).
Here's how that advice could turn $500 invested monthly into $986,900 over 30 years.
The Vanguard S&P 500 ETF provides exposure to popular stocks like Apple, Nvidia, and Microsoft
The S&P 500 tracks the performance of 500 large U.S. companies. It includes value stocks and growth stocks from all 11 stock market sectors, and it covers 80% of domestic equities and 50% of global equities by market value. The Vanguard S&P 500 ETF tracks the S&P 500, letting investors diversify money across many of the most influential companies in the world.
The top 10 positions in the index fund are listed by weight below:
- Apple: 7.1%
- Nvidia: 6.7%
- Microsoft: 6.2%
- Amazon: 3.8%
- Alphabet: 3.5%
- Meta Platforms: 2.5%
- Tesla: 1.9%
- Berkshire: 1.7%
- Broadcom: 1.6%
- JPMorgan Chase: 1.4%
Why Warren Buffett recommends an S&P 500 index fund for most investors
Warren Buffett believes an S&P 500 index fund is the best way for most people to get stock market exposure. That's because buying individual stocks requires a level of commitment that exceeds what most investors are willing to undertake. In other words, he believes most portfolios will underperform if people pick individual stocks.
"The goal of the non-professional should not be to pick winners," Buffett wrote in his 2013 shareholder letter. Instead, he said they should "own a cross-section of businesses that in aggregate are bound to do well. An S&P 500 index fund will achieve this goal."
Even professional money managers struggle to outperform the S&P 500. Less than 5% of large-cap funds beat the index over the last five years, according to S&P Global. Buffett made to the same point in his 2014 letter to shareholders. "Huge institutional investors, viewed as a group, have long underperformed the unsophisticated index-fund investor who simply sits tight for decades."
Image source: Getty Images.
How the Vanguard S&P 500 ETF could turn $500 per month into $986,900
The S&P 500 advanced 2,170% in the last three decades, returning 10.9% annually. That period encompasses such a broad range of economic conditions that similar returns are likely over the next three decades. Even so, I will assume a more conservative return of 10% annually to introduce a margin of safety.
At that pace, $500 invested monthly in the Vanguard S&P 500 ETF would be worth $95,600 after one decade, $343,600 after two decades, and $986,900 after three decades. Investors that want to avoid the commitment of selecting individual stocks will be hard pressed to find better returns elsewhere in market, especially without paying high fees. The Vanguard S&P 500 ETF has a low expense ratio of 0.03%, meaning the annual fee will total $3 on every $10,000 invested.
Personally, I keep a relatively large percentage of my portfolio in the Vanguard S&P 500 ETF, while investing the rest in individual stocks. That strategy gives me the opportunity to beat the market if my stocks outperform, but it also limits how badly I could trail the market if my stocks underperform.
