The S&P 500 is a stock market index that tracks the performance of 500 of the largest publicly-traded U.S. companies, including Apple, Costco, Kraft Heinz, and Amazon. By investing in a mutual fund or ETF that uses the S&P 500 as a benchmark, you essentially get to invest in all these companies without having to buy individual shares. That means built-in diversification, which can help reduce volatility in a portfolio.
As with any type of investment, the S&P 500 has its own benefits, risks, and considerations. Here’s what you need to know to get started.
An overview of the S&P 500
The S&P 500 isn’t random. The 500 companies on the list meet certain criteria, including liquidity (how easily a company’s assets can be bought or sold), market capitalization (the total value of the company’s outstanding shares), and public float (the percentage of shares available for trading by the public). The list is reviewed on a quarterly basis.
Index funds that track the S&P 500, like ETFs (Exchange-Traded Funds) or mutual funds, allow people to invest in a fund that is representative of the S&P 500 index, with the aim of matching the performance of the stocks in the index. The Dow Jones Industrial Average is arguably the most well-known index. It tracks 30 “blue-chip” stocks (stocks from established, reputable companies) as selected by a committee that includes representatives of the S&P Dow Jones Indices and from The Wall Street Journal. The S&P 500 involves more complicated criteria, and obviously a lot more companies, but they are both stock indexes.
While it’s not a stock itself, the S&P 500 index’s performance is tracked and can often be found on investing charts (usually as “^GSPC” or “$SPX”). That number represents the collective performance of all 500 companies. It’s updated throughout the day and gets prominently displayed on the homepages of major news sites and financial news channels. It gets that level of attention because it provides a helpful snapshot of the overall health of the market. How those 500 companies go, so goes the economy goes, so the thinking…goes.
How to invest in the S&P 500
To invest in the S&P 500, you can invest in an ETF or a mutual fund that tracks the S&P 500 index. And you can do that with any non-registered or registered account, including a Tax-Free Savings Account (TFSA), Registered Retirement Savings Plan (RRSP), Registered Education Savings Plan (RESP), First Home Savings Account (FHSA), or a non-registered investment account.
Whether you choose to invest in an S&P 500 index mutual fund or ETF depends on your investment preferences and overall investment strategy. Here are a few key differences to keep in mind.
ETFs can be bought and traded throughout the day, whereas mutual funds are bought and sold once per day, once they set their price at market close. If you’re an active investor who likes to trade often, or wants to be able to make quick decisions based on your market observations, you may prefer an ETF over a mutual fund.
ETFs often have a lower barrier to entry than mutual funds. You can buy a single share of an ETF, but many mutual funds have minimum investment requirements that aren’t cheap.
ETFs usually have lower annual fees than mutual funds; however, if you plan on frequently trading, you may incur brokerage commissions when you buy or sell (depending on how your investments are managed).
Benefits of investing in the S&P 500
Investing in an ETF or mutual fund that tracks the S&P 500 offers plenty of benefits, including:
Diversification. When you invest in an S&P 500 index mutual fund or ETF, you are automatically diversifying your investments among different stocks — this is an important part of any smart investment strategy, because if one company or market performs poorly, your entire portfolio won’t sink.
Ease and convenience. In one transaction, you basically get to invest in all 500 companies at the same time. Plus, it’s hard to beat the convenience that comes with tracking the market rather than picking individual stocks.
Performance. There is no sure thing when it comes to investing. But historically, ETFs and mutual funds that track the S&P 500 index have delivered pretty solid long-term returns. The value of your investment in the S&P 500 will rise and fall with market fluctuations, but because it’s a long-term investment strategy with a fairly reliable track record, it can be a good investment option for long-term growth.
Risks of investing in the S&P 500
As with any investment, there are also risks and downsides to investing in ETFs and mutual funds that track the S&P 500, including:
Concentration. While the S&P 500 is inherently diversified, it has become highly concentrated in recent years, meaning that a small number of the 500 companies make up a large percentage of the total value of the index itself. That may pose a risk, since the performance of the entire index is highly dependent on a small group of companies.
Underexposure. The S&P 500 is only diversified in certain respects. It’s made up entirely of large U.S. companies, which means no exposure to international markets or smaller, on-the-rise companies that may have potential for significant growth.
Limited returns. By limited, we don’t mean poor. What we mean is that you can’t try to time or outperform the market when you invest in the S&P 500. The goal of the index, now and forever, is to be representative of the U.S. market performance, not to exceed it. And while the S&P 500 may have a solid track record of long-term performance, it isn’t impervious to economic slowdowns or recessions. Its value can take a beating during downturns.
Final thoughts on investing in the S&P 500
Investing in an S&P 500 index mutual fund or ETF isn’t inherently a good or bad thing. As with any type of investment, it’s about whether it makes sense for your financial goals and fits within your broader strategy.
