The Smartest Way to Invest in the S&P 500 This January

Last year was a remarkable period for stocks and investors in the stock market. The S&P 500 (^GSPC) surged into the new year, confirming a bull market, and wrapped up 2024 with impressive double-digit gains, following a 24% increase in the previous year.

Throughout this upward trend, investors showed a clear preference for companies involved in the ever-evolving and exciting field of artificial intelligence (AI). Consequently, AI stocks like Nvidia and Palantir Technologies registered the most significant gains in the Dow Jones Industrial Average (^DJI) and the S&P 500, respectively, during 2024.

As we step into another year, there's plenty of reason to remain optimistic about the stock market's future. The momentum that has been building is promising, with the AI growth trajectory still in its early stages and a favorable economic environment emerging, thanks to recent interest rate cuts that are likely to benefit both companies and households in the upcoming months.

Given these circumstances, now is an ideal time to consider investing in the S&P 500. But what is the smartest approach to do this? Let’s explore.

Understanding the S&P 500

To begin, let’s delve into what the S&P 500 is. This index has been a standardized benchmark that includes 500 companies since the late 1950s. Members are added or removed periodically to ensure the index reflects the companies that are currently shaping the economy. To qualify for inclusion, a company must have a minimum market capitalization of $18 billion, as the index only tracks the performance of large-cap stocks.

Being invited to join the S&P 500 is a significant achievement for a company, marking its entry into an elite circle of leading American businesses. When you invest in the S&P 500, you're essentially investing in the top-performing companies in the country. Therefore, it's no surprise that the S&P 500 has proven to be a successful investment over time, delivering an annualized average return of about 10% since its inception.

Smart Investment Strategies

Now, let's think about the best ways to invest in this highly regarded index that has shown exceptional performance over the past two years. A great way to do this is by investing in a fund that tracks it. A couple of recommended options are the Vanguard S&P 500 ETF (VOO) and the SPDR S&P 500 ETF Trust (SPY). These two exchange-traded funds (ETFs) mirror the index's composition, meaning they can deliver the same returns. Both ETFs are quite similar, so either would make a valuable addition to your investment portfolio.

Although these Vanguard and SPDR funds are heavily weighted towards the technology sector, they also encompass a total of ten different industries. This diverse mix allows investors to benefit from the hottest stocks currently available while ensuring diversification across various sectors. Moreover, purchasing shares of these funds is as simple as buying individual stocks since they trade daily on the market just like stocks.

The primary distinction between these funds lies in their management fees, indicated as an expense ratio. It's advisable to select ETFs with expense ratios below 1%. For these options, the Vanguard fund has an expense ratio of 0.03%, while the SPDR fund has a ratio of 0.09%. These minimal fees help ensure that your returns are not diminished significantly over time.

Two Effective Investment Approaches

You have a couple of options when it comes to investing in these funds. One approach is to make a single large purchase and hold it long-term. Historical data suggests that this strategy is likely to yield positive results over time, given that the index has historically achieved double-digit annualized gains.

Alternatively, you can harness the power of compounding by investing a lump sum today and then consistently investing a certain amount in the ETF every month over an extended period. This method can significantly enhance your investment growth. For instance, assuming a 10% annualized average increase — a rate the index has achieved in prior years — if you invest $1,000 today and add $100 monthly for 35 years, your total contributions would amount to $43,000, while your investment could grow to over $310,300.

Your decision to either invest a large amount upfront or to spread your contributions over time ultimately depends on your investment horizon and overall strategy. However, given the S&P 500’s strong track record historically and in recent times, either approach presents a smart opportunity to invest in this thriving index this January.

investment, stocks, index