Warren Buffett has repeatedly mentioned that index funds are the best ways for an individual retail investor to invest long term in the stock market. He understands that most average Joe investors don’t have the time, resources or aptitude to find value stocks like he can. So when Buffet is giving investing tips to people, he always recommends index funds. Here is why.
Index funds are mutual funds that track a particular stock index. It may be the S&P 500 composite or the Dow Jones Industrial Average.
These are known as passively managed funds. That means there isn’t a money manager pulling the the strings behind a curtain. In most cases, it’s a computerized program that is buying and selling based on the index that it is following.
There are several advantages to this. Firstly, mutual fund managers are notorious for not beating the market or keeping in pace with the market over time. But if you look historically at indices, they have proven to grow over time. You may not beat the market, but it is rare that people do anyways.
Secondly, index funds tend to be a lot cheaper because it is passively managed. Although each fund has it’s own index and it’s own unique investment strategy, it is run by a computer significantly reducing the expense ratio. That means you pay a very small management fee if at all. You can get a corresponding ETF, and all you would pay is the trading commission.
The reason Warren Buffett recommends index funds is because they have proven to grow over time. They track with the overall market, which has historically done well, even though it’s not spectacular.
Also, you as an individual investor don’t have to stock pick. This makes sensible and good investing accessible to everyone who needs to have a place to put their money to grow. Even someone who has absolutely no interest in the stock market can grow their portfolio just by investing in an index fund and leaving it there for the long term.