While meme stocks are exciting, these investments have a proven track record
I know what you’re thinking. In a world where meme stocks dominate both the market and the headlines, the concept of index funds, or portfolios with holdings that mimic the characteristic of an underlying benchmark — such as a stock market index or subsegment — seems to lack total relevance. Yet, you might be surprised to learn how viable this investment category really is.
Since the financial crisis, Warren Buffett's Berkshire Hathaway has had significant exposure to financial stocks in its portfolio. Q1 2021 hedge fund letters, conferences and more At the end of March this year, Bank of America accounted for nearly 15% of the conglomerate's vast equity portfolio. Until very recently, Wells Fargo was also a prominent Read More
First, index funds — which either consist of mutual funds or the ever-popular exchange-traded fund (ETF) — are passive investments. This contrasts sharply with active portfolio management, where fund managers attempt to build best strategies for entry and exit. Instead, with indexing, the fund manager includes stocks and other tradable assets that mirror a given benchmark.
Logically, index funds that mimic major indices, such as the S&P 500 index, are very reliable over the long term. Furthermore, for those that want enhanced risk-reward profiles, you can find multiple derivative products that bolster return potential. Of course, this entails risk. But here’s the thing: adding leverage to a major index is much more reliable than say attempting to pick the next big penny stock.
Moreover, while seemingly everyone is gung-ho about speculative trades, such opportunities are incredibly cyclical. As an example, take cryptocurrencies — they’re all the rage. But when you look at their longer-term charts, you can clearly see the extreme boom-bust cycles. Obviously, index funds carry volatility too. But the cycles are much more predictable.
Plus, with so much going on in the world, whether you’re talking about the novel coronavirus pandemic or growing fissures in society, all investors should consider relatively safe financial vehicles. This isn’t to say that you should completely abandon risk-on assets. Rather, you can better mitigate the threats of the unknown via these reliable index funds. They are:
- SPDR S&P 500 ETF Trust (NYSEARCA:SPY)
- Fidelity ZERO Large Cap Index Fund (NASDAQ:FNILX)
- iShares China Large-Cap ETF (NYSEARCA:FXI)
- Schwab Emerging Markets Equity ETF (NYSEARCA:SCHE)
- SPDR S&P Dividend ETF (NYSEARCA:SDY)
- Vanguard Real Estate Index Fund ETF (NYSEARCA:VNQ)
- SPDR Gold Trust (NYSEARCA:GLD)
Before we dive in, I must stress that no investment class is completely safe. Even socking your money away in the bank carries substantial opportunity costs. The below index funds simply give you options to consider as we navigate a cloudy future.
Index Funds: SPDR S&P 500 ETF Trust (SPY)
Arguably the most banal among index funds, the SPDR S&P 500 ETF Trust is a boring fund, no doubt about it. And this reputation hasn’t improved for the better thanks to the meme stock phenomenon. But investing isn’t a combat martial art where you hope to end the fight quickly with a surprise front leg kick to the face.
Instead, index funds, particularly those that mimic major indices such as the S&P 500, provide long-term reliable returns. You ever heard of the phrase never bet against America? Well, if you want to bet on the U.S., one of the easiest ways to do so is to acquire units of the SPY ETF.
Over the trailing year, the SPY is up nearly 47%. In the trailing five-year period, the ETF has gained almost 102%. No these aren’t sexy metrics by a long shot. But you know what else is sexy? Not seeing a whole bunch of red ink graffitied on your portfolio.
Of course, no one can guarantee that the SPY will continue its steady rise to lofty records. Certainly, the market itself looks stretched. Nevertheless, if we do get a correction, you’ll want to load up on this proven ETF.
Fidelity ZERO Large Cap Index Fund (FNILX)
While mutual funds don’t necessarily perk people up, they can be exciting in their own right. For instance, all index funds offer the same risk-mitigation concept. By spreading your bets across multiple stocks instead of just one, you can better protect your portfolio in case of unexpected volatility. But there’s also one thing that every investor — beginner or otherwise — should note: expense ratios.
Expense ratios represent various cost outlays that mutual funds or ETFs incur, such as portfolio management, administrative, marketing and many other expenses. Almost always, the expense ratio is a percentage of a particular fund’s average net assets. Therefore, you must watch this metric carefully because it can slowly eat away at your profits.
However, the Fidelity ZERO Large Cap Index Fund presents two attractive elements. First, it basically (though unofficially) tracks the S&P 500 so you get your reliability. Second, the expense ratio is 0%. This is one case where all-caps isn’t hyperbole.
Index Funds: iShares China Large-Cap ETF (FXI)
Prior to the pandemic, many investors looked to China for enhanced growth potential. While index funds levered toward American blue-chip indices are reliable, they’re not very exciting. A major reason why is that the U.S. is a mature economy. We don’t build stuff here because we outsource our manufacturing. Instead, we specialize in innovation.
However, innovation can be an abstract concept until it reaches commercial viability. In the meantime, much of the nuts and bolts of the global economy occur in China; hence, the enormous popularity of the iShares China Large-Cap ETF. Focusing on Chinese blue chips, the FXI theoretically adds more oomph to your holdings.
Admittedly, though, the pandemic does bring much ambiguity to say the least over the ETF. In October last year, the Pew Research Center reported that anti-China sentiment hit historic highs across several nations. Further, Pew reported in March of this year that most Americans support a tough stance on China on human rights and the economy.
Still, if you want to be contrarian, the FXI following a correction may offer substantial upside for the long haul. Basically, developed nations outsourced their manufacturing base to China because let’s face it: no one can build as cheaply as Chinese manufacturers. So keep FXI on your radar of index funds to scoop up on discount.
Schwab Emerging Markets Equity ETF (SCHE)
Thanks to globalization and the advent of connectivity technologies, regular retail investors have more options than ever before. Further, because the U.S. economy is a mature one, you are likelier to accrue higher returns on emerging markets. But as with anything else, a higher return profile entails greater risk. And that’s why index funds mimicking emerging market indices are so compelling.
True, if you want the greatest return potential, you must choose an individual name. While having a basket of securities protects you against downside risk, it also limits upside trajectory. Simply put, the underperforming names in the fund can drag down the top performers. That’s not ideal, especially in this wild market.
Nevertheless, emerging markets are inherently less stable than their developed counterparts. Therefore, if you want exposure to this space, you should consider the Schwab Emerging Markets Equity ETF.
Primarily, the SCHE fund is geared heavily toward Asia. However, it also has exposure to Africa, which is a risky but intriguing frontier market. As well, it has significant ties to Latin America and the Middle East. Plus, with a relatively low expense ratio of 0.11%, SCHE is wallet friendly for beginners.
Index Funds: SPDR S&P Dividend ETF (SDY)
One of the misconceptions about index funds is that they’re exclusively tied to major indices, commodities or regional markets. While many if not most funds are set up that way, you can find creativity in this space. Take for instance the SPDR S&P Dividend ETF. It’s similar to the SPY as it features blue chips. But the twist is that the SDY focuses on passive income.
In the world of meme stocks, cryptocurrencies and big growth plays, the concept of dividends probably doesn’t appeal to beginners. Likely, if you’re just starting out, your friends have told you about all the money that they made on Robinhood. Yes but remember — unless you sell for cash, those gains are “paper” gains.
To get a comical (though NSFW) description about this concept, check out the Jordan Belfort and Mark Hanna interaction in the film, The Wolf of Wall Street.
Anyways, a strong, well-balanced portfolio will always feature some dividend stocks. Not only do you get a payout for holding shares, this investment class tends to weather corrections better than others. And SDY features some generous blue chips you don’t want to miss out on.
Vanguard Real Estate Index Fund ETF (VNQ)
I’m not breaking new ground when I state that the housing market is absolutely bonkers. Frankly, it’s also very perplexing. So many Americans lost their jobs or their livelihood because of the pandemic. Even though we’re gradually recovering, the employment level shows that we’re still many millions behind where we were prior to the crisis.
With all the devastation that occurred, the number one question is this: where the heck is this money coming from to bid up home prices?
Lately, it’s not just people who have been sandbagging the state of their financial status. Rather, corporate entities and investment funds have been competing with regular homebuyers, bidding up prices to perhaps unsustainable levels. So if you want to invest in properties, you might just have to resort to Vanguard Real Estate Index Fund ETF for now.
True, buying index funds comes nowhere close to the pride of home ownership. But unless you’ve got half-a-million bucks just lying around, you’re going to have a tough time competing. At least with VNQ, you can accrue returns — mostly from income-generating business real estate — while you wait out this crazy market.
Index Funds: SPDR Gold Trust (GLD)
You’d think that the monetary precious metals would do well during this extended period of crisis. When you have fear mixed with uncertainty, you have a strong case for safe-haven assets with intrinsic value. Even if people are speculating like crazy right now, all forms of extreme speculation ended badly. So, rare commodities may still be relevant.
Therefore, you may consider SPDR Gold Trust, which may perform well in the future due to the thesis that precious metals represent stability during highly anxious periods. Nevertheless, the GLD is one of the riskiest among major index funds because of the underlying economic conditions.
While arguably most analysts are worried about inflation, it’s deflation that may pose the ultimate risk. For instance, money velocity or the rate at which each unit of currency circulates in the economy is down near all-time lows. Also, first-quarter 2021 money velocity declined by 1% from Q4 2020. That’s deflationary.
Also, you have the threat that companies can now do more with fewer employees. Higher productivity and less overhead? This too is deflationary.
Nevertheless, fear of the unknown also drives precious metals, not just inflationary concerns. Therefore, GLD may have a place in your portfolio. Just be careful with it.
On the date of publication, Josh Enomoto did not have (either directly or indirectly) any positions in the securities mentioned in this article.
About the Author
A former senior business analyst for Sony Electronics, Josh Enomoto has helped broker major contracts with Fortune Global 500 companies. Over the past several years, he has delivered unique, critical insights for the investment markets, as well as various other industries including legal, construction management, and healthcare.
Article By Josh Enomoto, InvestorPlace