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Looking for the Best Stocks to Buy? Consider an Index Fund

Some individual stocks are good buys, but there's a better way to build a diversified — and winning — portfolio: index funds.
Oct. 30, 2018
Investing, Investing Strategy, Investments
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Here’s a hot tip on the best stock to buy right now: There isn’t one.

Sure, there are some well-known performers; companies that are fixtures on countless lists of best stocks to buy. But research shows the majority of individual stocks fail to perform, much less outperform the diversified portfolio provided by an index fund.

Searching for the best stock to buy

Which stocks have performed recently? There are a small minority.

For example, during the first half of this year, 10 stocks contributed more than 100% of the S&P 500’s year-to-date return, according to Goldman Sachs. Those stocks are:

  • Amazon.com Inc.
  • Microsoft Corp.
  • Apple Inc.
  • Netflix Inc.
  • Facebook Inc.
  • Alphabet Inc.
  • Mastercard Inc.
  • Visa Inc.
  • Adobe Systems Inc.
  • NVIDIA Corp.

Does this mean these are the best stocks to buy right now? No. Not only is predicting future performance of even these current powerhouses a job the pros haven’t yet mastered, but the best stocks for your portfolio aren’t necessarily the best stocks for someone else’s portfolio.

» Learn more about the different types of stocks

Your goals, risk tolerance, current holdings and budget will vary — and those are just some of the key considerations when purchasing an investment. For more information, learn how to research a stock.

The answer for many: index funds

Picking individual stocks is difficult, which is why many investors turn to index funds, which bundle many stocks together.

When individual stocks come together into a diversified portfolio via index funds, they have a lot of power: The S&P 500 index — which includes the companies listed above, alongside hundreds of other large companies in the U.S. — has posted an average annual return of nearly 10% since 1928.

Within an index fund, the winners balance out the losers — and you don’t have to forecast which is which.

An S&P 500 index fund will aim to mirror the performance of the S&P 500 by investing in the companies that make up that index. Within an index fund, the winners balance out the losers — and you don’t have to forecast which is which.

That’s why we think low-cost index funds and exchange-traded funds — a type of index fund that is traded like a stock — should form the basis of a long-term portfolio.

» Looking for affordable diversification? Learn how to invest in index funds

Managing expectations

Index funds won’t beat the market. They aren’t supposed to. An index fund’s goal is to match the returns posted by its benchmark — in the example above, that benchmark is the S&P 500, but there are funds that track a range of underlying assets, from the total stock market to international stocks, bonds and commodities such as gold.

» Need a brokerage account? See our picks for the best online brokers

Index funds are inherently diversified, at least among the segment of the market they track. Because of that, all it takes is a few of these funds to build a well-rounded, diversified portfolio. They’re also less risky than attempting to pick a few could-be winners out of a lineup of stocks.

The downside: Some might argue they’re significantly less thrilling than chasing the current hot stocks. If you’re seeking that stock-picking rush, go for a happy middle ground: Dedicate 10% or less of your portfolio to predicting the next big thing, and use index funds for the rest.