Warren Buffett's Favorite ETFs and Why You Should Consider Them

Warren Buffett, the renowned investor and CEO of Berkshire Hathaway, manages a diversified investment portfolio that includes around 45 equity positions and ownership stakes in 60 different companies. However, not all of these investments are in individual stocks. Notably, Berkshire Hathaway has invested in two exchange-traded funds (ETFs): the SPDR S&P 500 ETF Trust (often abbreviated as SPY) and the Vanguard S&P 500 ETF (referred to as VOO). Both of these ETFs are designed to track the performance of the S&P 500 index.

Although the holdings in these ETFs represent only a small fraction of Berkshire's overall equity portfolio, Buffett frequently emphasizes the importance of such funds for investors. He believes every investor should seriously consider owning at least one fund that mimics the S&P 500 index, and here’s why.

Challenges of Beating the Market

Buffett has consistently recommended that most investors should opt for S&P 500 index funds. During the 2020 Berkshire Hathaway annual meeting, he succinctly stated, "In my view, for most people, the best thing to do is to own the S&P 500 index fund." The rationale behind this advice is that outperforming the market can be extremely difficult. While Buffett has successfully beaten the market over his investment career—delivering annualized returns of 19.8% since 1965 compared to the S&P 500's 10.2%—most fund managers are not able to achieve similar results.

In fact, studies have shown that a significant percentage of money managers fail to outperform the market in any given year. For instance, last year, around 60% of large-cap fund managers underperformed relative to the S&P 500. Therefore, for the average investor, investing in a low-cost index fund is a more sensible strategy than trying to select individual stocks or relying on various money managers.

When investing in an ETF like SPY, you will need to pay a small fee known as an expense ratio. This fee is typically much lower than that charged by actively managed funds. For instance, the SPDR ETF features an annual expense ratio of just 0.09%, while the Vanguard ETF has an even lower expense ratio of 0.03%.

Accessibility for All Investors

Given the difficulty in consistently beating the market and recognizing that most individual investors hold full-time jobs, it makes practical sense to invest in an index fund. While professional money managers are paid to select stocks, individual investors might have limited time and expertise to dedicate to investment choices. This makes purchasing an index fund—essentially buying the market—a wise option for many.

In fact, during the 2021 Berkshire Hathaway annual meeting, Buffett suggested that for someone lacking deep knowledge about stock investing, choosing an S&P 500 index fund would be a prudent decision over buying Berkshire Hathaway shares directly. He mentioned, "I like Berkshire, but I think that a person who doesn't know anything about stocks at all... ought to buy the S&P 500 index."

Buffett holds a strong belief in the growth potential of the American economy and, consequently, the stock market. His confidence is summed up in his statement from the 2020 meeting: "I will bet on America the rest of my life."

A Secure Path to Wealth Creation

While many investors aspire to outperform the market, achieving average market returns could actually suffice for long-term wealth generation. For instance, if you've saved $1 million for retirement, generating an average return of 10% annually—on par with historical S&P 500 gains—would result in an increase of $100,000 each year.

At the 2021 meeting, Buffett pointed out, "For a given individual, particularly my wife, I just think that ... the best thing to do is buy 90% in an S&P 500 index fund." This advice tends to resonate with retirees, who often prefer safe and dividend-paying stocks to secure their financial future while generating passive income. Thus, for many investors, following Buffett's lead by investing in one of these ETFs is a sound approach.

Note: The content herein is for informational purposes only and does not constitute financial advice.

Investing, Buffett, ETFs