The Best S&P 500 Index Funds: A Complete Guide 2019
If you are looking to diversify your investment portfolio, an index fund is a great mechanism to achieve these goals. Unlike a more traditional managed fund, where fund managers independently select investment products on your behalf, an index fund instead tracks the performance of a particular market.
The S&P 500, an index that tracks the rise and fall of the top 500 US stocks by market cap, is one example. However, if that wasn’t confusing enough, if you are looking to invest independently, there are plenty of S&P 500 funds to choose from.
In our comprehensive guide, we’ll briefly start by discussing what an index and the S&P 500 really are, followed by an overview of some of the most notable funds on the market today.
What is an index fund?
In its most basic form, an index fund is a financial investment product that allows investors to speculate on the movement of a specific market. When broken down, the index is the tool used to track the prices of the financial component, and the fund is the avenue that allows you to invest.
In order to calculate the value of an index, a range of underlying mechanisms are used. This is to ensure that prices are based on a weighted “free float market capitalization” system. Simply put, this means that the price of an index is based on the free market economy and therefore cannot be manipulated or distorted in any way.
Also, much like traditional stock markets such as the NYSE or NASDAQ, index funds operate under a very strict regulatory framework. Index funds can follow virtually any market, but the most popular focus on the major exchanges. This includes the NASDAQ, the FTSE, and of course, the S&P 500.
Read: What is the FTSE 100?
What is the S&P 500?
As noted above, the S&P 500 is an index that tracks the movement of the 500 largest US companies. The idea behind such an investment is that you can diversify your risk among 500 different companies, which in turn will operate in multiple sectors.
So even if a small proportion of companies are underperforming, your exposure is significantly reduced, not least because your portfolio contains a large number of individual companies.
As the overall weighted value of the S&P 500 is based on the real-time values of the underlying constituents, the value of the index changes throughout the trading day. However, such an index is more suitable for long-term holdings, because in theory, the stock markets should, while experiencing turbulence along the way, rise indefinitely.
To give you an idea of the type of returns generated by the S&P, it is important to consult its historical records. Since the Composite Index began in 1926 (although it was only 90 stocks versus 500), annual returns have averaged in the region on 10%. However, it is also important to note that other factors must also be taken into account. For example, this may include the effects of inflation, as well as the underlying charges for the fund in question.
In addition, it should also be noted that past performance in no way prejudges future results.
Nonetheless, in the next section of our guide, we’ll discuss the importance of the expense ratio offered by an S&P 500 index fund.
Chart showing how the S&P 500 has performed over the past 5 years
What is an expense ratio and why is it important?
No matter what financial product you are looking to invest in, there will always be a range of fees that you will need to consider. In the world of index funds, this is identified by the expense ratio of the fund. Interestingly, the Securities and Exchange Commission (SEC) dictates that index funds must clearly state the expense ratio of an index fund, subsequently allowing investors to make an informed cost decision. While the expense ratio is provided as a singular percentage, it is made up of several costs.
Ultimately, the expense ratio of an index fund will almost always be significantly lower than that of a managed mutual fund. One of the main reasons for this is that an index fund is passive as opposed to active. In other words, because an S&P 500 index fund is based on the top 500 companies by market cap, index funds do not need to manage investor funds to the same degree of activity as in a managed fund.
On the contrary, managed funds must use sufficient resources for portfolio management and active trading, which increases fees.
While it’s important to keep your index fund’s expense ratio low, it shouldn’t be the only factor you rely on when choosing the best S&P 500 fund. Other factors, such as liquidity, volume and the potential for growth, are also important.
So now that you know what an index fund expense ratio is, in the next part of our guide, we’re going to discuss three of the best S&P 500 index funds on the market right now.
Best S&P 500 index funds on the market
Here are 3 of the best funds you can invest in.
Vanguard 500 Index Fund
Vanguard is one of the most established S&P 500 index funds currently in operation. More than four decades ago, Vanguard founder John Bongle concluded that few investors were able to consistently outperform the S&P 500 bedrock. As such, he came up with the concept of doing match the top 500 companies on a like-for-like basis. , with the aim of keeping costs ultra-low.
The fund is managed by the Vanguard Equity Investment Group, itself owned by its investors. In terms of the expense ratio charged by Vanguard, the fund stands at 0.04%. It’s actually one of the most competitive out there, especially considering the Vanguard 500 index fund’s long-standing reputation.
In order to achieve its objectives, the Vanguard team invests almost all of its assets in the shares of the 500 largest American companies, on a comparable basis with the official index.
In addition, the fund will also distribute its holdings fully online with the same weightings as the index. At the time of writing, the Vanguard 500 Index Fund has $ 450.2 billion in assets. If you are a long-term investor looking to follow the overall performance of the S&P 500 while keeping costs low, the Vanguard fund could be an attractive option.
SPDR S&P 500 ETF Trust
If one of your ultimate goals is to find an S&P 500 index fund that offers high levels of liquidity and volume, it may be worth considering Standard and Poor’s (SPDR) S&P 500 ETF Trust.
In a nutshell, this particular index fund is actually an ETF (Exchange Traded Fund). This means that the fund itself does not actually buy, own or own the shares of the companies that make up the S&P 500. Instead, the fund simply tracks the underlying prices, subsequently allowing investors to easily gain exposure to the performance of the S&P 500.. This is different from the methods employed by Vanguard, which actually owns the shares.
The SPDR is also different from the aforementioned index fund, as it is technically classified as a Unit Investment Trust (ITU). Simply put, this means that the SPDR index fund does not reinvest dividends in the portfolio and therefore investors are protected against capital gains taxation. In terms of fees, the SPDR S&P 500 ETF Trust has an expense ratio of 0.09%.
If your primary goal is to maximize earnings, it may be worth considering the iShares S&P 500 Growth ETF. This particular clue adds a twist to its underlying mechanisms.
In order to maximize growth, the iShares S&P 500 Growth ETF will increase its weightings in companies showing strong signs of growth.
To achieve these goals, the iShares S&P 500 Growth ETF will use three main factors. These include sales growth, profit growth, and momentum. However, it’s important to note that using these specific factors a lot of the focus will be on tech stocks.
In addition, 34% of the index fund is owned by only 10 companies. As such, it adds an element of higher risk compared to Vanguard. It’s also worth noting that the iShares S&P 500 Growth ETF is slightly more expensive than the previous two funds we talked about, with an expense ratio of 0.18%.
To counter this, the iShares S&P 500 Growth ETF has outperformed the S&P 500 over the past 10 years, with gains of 15.45%.