Diversification Through Broad S&P 500 ETF's
Seeking Alpha Analyst Since 2020
Summary
- Diversification is a strategy used by investors and traders to create a mixture of asset classes.
- Exchange-Traded Funds (ETF's) offer a variety of assets within the portfolio.
- The S&P 500 has produced the highest average return of 14% over the past decade, when compared to the top two other major indices.
- The benefits of diversification through ETFs are portion sizing and reduction of risk.
Diversification Through Broad S&P 500 ETF’s
Diversification Diversification is a strategy used by investors and traders to create a mixture of asset classes. An example of diversification, securities such as stocks which can be dispersed across 11 different sectors such as; energy, materials, industrials, consumer discretionary, consumer staples, health care, financials, information technology, telecommunication services, utilities, and real estate. The reason for doing this is to reduce the amount of risk your portfolio takes on by reducing your single stock exposure and portion sizing. Leaving you with a portfolio that has a collection of various assets and asset classes.
What is an Exchange-Traded Fund (ETF) Exchange-Traded Funds (ETF’s) offer a variety of assets within the portfolio. ETF’s also come in a variety of forms. Such as indices, sectors, industry, industries, assets, etc. So, the question is what ETF is the best fit for your portfolio? I personally believe that a Broad S&P 500 is the best choice because it will get your coverage across all 11 sectors. Now that I have answered what, let me determine the why? The S&P 500 has produced the highest average return of 14% over the past decade. When compared to the top two other major indices i.e. Dow Jones and Nasdaq. The whole point to investing is to make money, so why not follow the indices with the highest return on your investment. By investing in ETFs such as $SPY, $SPYG, $SCHK, & $SCHB. If most of your investments are in assets such as these, your baseline return should be roughly 14% on average. This is called “smart beta” or your baseline return. Smart beta is determined by comparing your portfolio to a comparable index, sector, etc. and their return.
Benefits of Diversification The benefits of diversification through ETFs are portion sizing and reduction of risk. For many new investors building a diversified portfolio is a costly adventure. ETFs come in all different price ranges along with proper portion sizing, meaning not any asset is too large in the given ETF. This reduces your single stock exposure to risk. Risk, this word is used a lot in the market, but what does it mean? There are two types of risk Unsystematic and Systematic. Unsystematic risk is the risk that a company or sector may be exposed to. Through diversification and owning stocks among different sectors, you can avoid hurting your whole portfolio or a large portion of it. Think of it as not putting all your eggs in one basket. Unsystematic risk by contrast is the risk that can affect an entire index, this kind of risk can not be reduced by an S&P 500 ETF or any ETF for that matter. But through diversification among different asset classes and international ETFs you may be able to reduce the risk of war, geopolitical policy, etc.
The Money Point Overall, by going with a majority of S&P 500 ETFs you can achieve an average return of 14% per year. This will reduce the amount of unsystematic risk by creating a proper portion sized portfolio. This is a great way to build wealth for the long haul.
Analyst's Disclosure: I am/we are long SCHK, SPYG, SCHB.
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