Say hi to S&P500
By Adam Hano, Co-Founder
“In my view, for most people, the best thing is to do is owning the S&P500 index fund”
– Warren Buffet, one of the most successful investors in the world
With this thing called inflation reaching up to 20% in Europe, if you haven’t heard of S&P500 by now, you’re gonna have to learn all about, either you like it or not; either you’re good with numbers or never passed the class. But we like to make things simple here, so let’s dive right in!
Do your parents invest in stocks? They probably deeply perceive it as “gambling” and therefore they have their money safe in their local bank earning 0.01% interest. Financial education wasn’t in my, yours or their highschool textbooks, unfortunately. To be honest though, most of the time they’re right! It is a bit of a gamble: who says that specific stock price is going to go up or down? Do you know better than everyone else? Or are you just waiting for someone else to flip a coin?
🤔 When it stops being a gamble
What if I told you that “in general”, “on average”, “most good companies” tend to grow by 10.5% every year. And what if I told you that this has been happening for the last 99 years? Of course, past performance isn’t always indicative of future performance, but if you could offer your parents stocks instead of having 20 years ago some financial advice, would you tell them to keep their money in the bank? Would they still be “gambling”?
🏦 To believe or not to believe
If you don’t trust that the 10.5% increase every year “on average” is going to continue, then you shouldn’t invest. At least, don’t bet on the “general average”, you can find sub-buckets of stocks or specific stocks to invest in that you have more belief in. However, if you’re in the majority camp of “yeah, capitalism earth will keep spinning”, then you’re looking at putting your money across all the biggest capitalist players in the economy which you hope stays stable and grows overtime.
We can all agree that bigger companies are more stable than smaller companies. We can also all agree that – like it or not – the way capitalism works is by striving to maximize shareholder value, in other words the company’s goal is to make the company as valuable as possible. So, you can imagine a world where big companies get bigger and bigger, and because capitalism works, they remain in power and are stable as rocks. The last thing we all agree on is that the Mecca of capitalism is the US.
It’s no surprise then, that someone (called Standard and Poor’s) decided that 500 of the biggest (large-cap), money-making (with profitable quarters) and diverse (across different industries) companies in the US should be in one bucket and referred to as the S&P500. Some of these big players boys you already know: Apple, Microsoft, Amazon and some of them you probably don’t: Aramco, Abbott, CVS Health. By putting your eggs in all of these companies’ baskets, you’re well-diversified, meaning that even if a few of them drop, then you’re still in good shape since most are well-performing.
Here’s it has performed over the last few decades, where you notice what that “average 10.5% return” actually means and that it can’t protect you during recessions when the whole economy goes down (e.g. 2000’s .com bubble, 2008 financial crisis, etc):
♾️ The bajillion S&P500 variants
So should I be looking for an S&P500 ticker? No. The index itself can’t be traded, but the world’s top investment firms do their best to approximate it by owning stocks in same ratios as indicated by the S&P500 (so you don’t have to do that) and then they create their own variants that you and I can trade easily!
📖 Here’s a few links if you want to learn more
- Listen to Freakonomics author Steve Levitt walking us through Why Managing Your Money Is as Easy as Taking Out the Garbage.
- Watch Sal Khan from Khan Academy walking us through the idea behind the S&P500 and other buckets of stocks (ETFs).
- Read Investopedia’s explanation of S&P500
- Read why investors use S&P as their benchmark
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