How to Invest in the S&P 500 Stock Market Index

The S&P 500 is an index that tracks 500 of the largest publicly traded companies on American stock markets. One way to invest in the S&P 500 is by purchasing individual shares of all 500 companies in the index. A more manageable and realistic option, however, is to buy shares of an exchange-traded fund (ETF) or mutual fund that tracks the index, such as the SPDR S&P 500 ETF (SPY) or Vanguard 500 Index Fund (VFIAX). These funds provide exposure to the entire index in a single, convenient investment.

Looking for guidance on your investments? Connect with a financial advisor who can help you build a strategy tailored to your goals.

Why Invest In the S&P 500

The S&P 500 is often viewed as a barometer of the U.S. economy because it includes many of the country’s largest publicly traded companies across diverse industries. Investing in it provides exposure to a wide range of sectors, from technology and healthcare to consumer goods and energy, which can help reduce the risk that comes from concentrating too heavily in one area of the market.

Beyond offering diversification, the S&P 500 has a long track record of generating strong returns over extended periods. While there are short-term fluctuations, the index has historically delivered annualized gains that outpace many other asset classes. Since the index expanded to 500 companies in March 1957, the S&P 500 has averaged about 10.69% on an annualized basis. ¹ This makes it a common choice for long-term investors seeking growth.

Another factor is liquidity. Funds that track the S&P 500 are among the most heavily traded investments, meaning it’s easy to buy and sell shares without significant price disruption. For investors who want broad market exposure, the index also serves as a benchmark to measure how other investments are performing.

How Does a Stock Make It into the S&P 500?

A company must meet specific criteria to be included in the S&P 500. This includes having a market capitalization above a set threshold, headquarters based in the U.S. and a history of positive earnings. The company’s stock must also be highly liquid, meaning it trades frequently and in large volumes.

A committee ultimately decides which companies to add or remove, aiming to maintain a representative snapshot of the U.S. large-cap market.

How to Invest in S&P 500 Funds

An S&P 500 index fund or ETF allows you to invest in the companies in the index and diversify your portfolio without all of the work and costs it would take to own stock in all 500 of the companies. Instead of researching, analyzing and tracking a specific company’s stock market performance, you can simply buy into an S&P index fund. That allows you to invest in 500 of the market’s top companies at the same time. 

There are many different funds that track this particular index, each taking a different view of how to invest in S&P 500 shares. Vanguard debuted the first mutual fund designed to mimic the S&P 500 Index in 1976. Roughly two decades later, the first ETF tracked the S&P 500 in similar fashion. Now, just about every major brokerage and fund company has an S&P 500 index fund.

You can likely invest in an index fund like the S&P 500 via a financial advisor or broker. Nearly all of them likely offer some variation of this particular index. If you want to try these index funds on the cheap, S&P 500 ETFs are available through discount brokers who trade them commission-free. However, that may require a minimum investment.

S&P-pegged mutual funds are another option. These are available through both brokers and fund companies. You can manage funds through an advisor or a broker, or oversee your own portfolio through a mutual fund provider. S&P 500 index funds are also available through employer 401(k) programs and individual retirement accounts (IRA).

Before investing, make sure to research each fund, including its fees and past performance. While an ETF can be more susceptible to market fluctuations, mutual funds tend to be more static. Each option has different fees and risk levels. 

Advanced S&P 500 Index Funds

While passive index funds that others oversee may make sense for many investors, active funds are also available. Those with more experience who want to customize their investments can try “smart beta” index funds, which offer more flexibility. 

Other active funds focus on S&P 500 companies but also include shares from beyond the S&P 500. Another option, leveraged funds or ETFs, can multiply returns, but they also amplify losses. If you’d rather bet against the S&P, inverse funds and ETFs can generate gains when the index declines.

Pros and Cons of Investing in S&P 500 Index Funds

S&P 500 index funds offer low management fees and simplified exposure to hundreds of large U.S. companies through passive tracking. You gain sector diversification without researching individual stocks. The tradeoff is that the index excludes small-cap stocks and international markets entirely, leaving you concentrated in large-cap U.S. growth.

Still, liquidity and ease of management are genuine advantages. S&P 500 ETFs trade actively, making it simple to buy or sell shares at fair prices. Index changes automatically flow into your fund without requiring you to monitor holdings.

However, the passive structure comes with significant concentration risk. The index is weighted by market capitalization, meaning the largest companies drive performance. When mega-cap stocks represent an outsized share of the index, your diversification becomes illusory. You nominally own hundreds of companies but are heavily concentrated in a few holdings. This creates performance volatility tied to a small number of stocks rather than broad exposure.

The passive approach also eliminates downside protection. During market declines, the index falls, and your fund falls with it. An active manager can rotate away from weakening sectors or reduce individual positions to cushion losses. An S&P 500 fund cannot rotate out of underperforming holdings or sectors, providing consistency but no tactical flexibility to limit damage during severe downturns.

You also have no control over which companies the fund holds or when those positions change. If you disagree with the index composition or believe certain holdings pose risks, you cannot opt out without abandoning the index approach entirely.

How to Choose an S&P 500 Fund

S&P 500 funds track the same index, but their costs, trading features and fund structures can differ. Before investing, compare the expense ratio, how closely the fund tracks the index and whether an ETF or mutual fund works better for how you plan to invest.

Expense ratios are particularly important for long-term investors because the fee is deducted from fund assets each year. For example, a fund with a 0.03% expense ratio would cost about $30 annually for every $100,000 invested. While the difference between two low-cost funds may look small, those costs can add up over a long investment period.

Your investing approach can also affect which structure makes sense. ETFs trade throughout the day at market prices, while mutual fund transactions generally take place once per day at the fund’s net asset value. Many brokerages also offer fractional shares and recurring ETF investments, which can make it easier to invest a fixed amount regularly.

Tracking difference is another consideration. An S&P 500 fund is designed to follow the index rather than outperform it. By comparing the fund’s return with the index over the same period, you can see how closely it has tracked its benchmark. Fees and other fund expenses can contribute to differences in performance.

For a long-term investor, low costs and consistent tracking may be more important than daily trading volume. More active investors may place greater importance on liquidity and bid-ask spreads. Comparing these features can help you distinguish between funds that otherwise provide similar exposure to the S&P 500.

Bottom Line

Investing in S&P 500 index funds is a great way to build a diversified portfolio and expand your investments. When choosing where to invest, be sure to choose evaluate a fund’s fees, fund performance and minimum investment requirements. There a number of different ways to tap into this roundup of stocks, and there are pros as well as cons to doing so. 

Investing Tips

• A financial advisor can help you build a strategic plan for your investment portfolio. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
• If you can’t choose between an S&P 500 index fund or a Nasdaq fund, you may still have some unresolved investment questions. SmartAsset’s investing guide for beginners can help you determine your goals, your risk tolerance and your investment’s vulnerability to inflation and capital gains tax.

Photo credit: ©iStock.com/Nikada, ©iStock.com/PrathanChorruangsak, ©iStock.com/Nikada