Exchange Traded Funds (ETF) – The Simplest Way to Invest

Do you think it’s possible to achieve 10-12% annual returns from the stock market with very little effort?

Most people say no, they don’t think it’s possible.

If you look at most retail investors in Singapore, the average retail investor makes only about 3-5% returns a year if they are lucky and they will look at this and say it’s impossible for them to make 10-12% a year with no effort.

But it is possible!

How?

To answer that question, you must understand what an index is.

Every stock market has an index that measures its performance. This index is made of a small basket of stocks that represents all the stocks in that market.

One example is the Dow Jones Index – this index represents all the stocks in the US by taking the average stock prices of the biggest 30 companies in the US.

Let us take a look at the US market over 30 years represented by the Dow Jones Index.

If look at the chart below, you will notice that in the short term, the market is like a roller coaster – it goes up and down. If you look back at where it started to now, there is a huge increase.

The point is this, in the short term, the market goes up and down like a roller coaster but in the long term, it always goes up, making higher-high points and higher-low points.

This has happened in the last 150 years since the market began, so the question is, 10-20 years into the future, would the index be higher than it is today?

The answer is a guaranteed yes and there are 3 reasons tied to it:

#1 Inflation:

10 years from now, a big mac will cost more than today.

10 years from now, a Nike shoe will cost more than today.

Even if companies sell the same number of products, their sales revenue and net profit will be higher just by pricing their products higher.

With stock prices always adjusting to profits and earnings, the value of the company will be higher.

#2 Population Growth:

10 years from now, there will be more people on earth.

More people = more demand for goods and services

Companies will grow indefinitely as they will have to sell more products to supply to a bigger population.

#3 Index Changes:

The Dow Jones Index is not always the same 30 companies!

They change all the time and the moment a company is not doing well and is losing money, it gets kicked out of the index and gets replaced by a better company.

It is always the best 30 companies that represent the market that makes up the index and that’s the reason why the index always goes higher.

What could you do, knowing that the index will always go up in the long term?

You could buy and just close your eyes.

If you bought the index from 1986 to 2015 and did not care about it, would you have made money now?

You would have increased your wealth by around 991%!

If you annualise it, that would be an 8.34% annual capital gain together with a 3.5% dividend gain, bringing your annual returns to 11.84%!

So that returns to my question – can you make 10-12% returns annually with zero to no effort? Yes, you just have to buy the index and hold it for the long term!

Another index that represents the US stock market is the S&P500 and it moves together with the Dow Jones index.

You can see from this chart that in 65 years, there were more winning than losing years and that is why in the end, you always make money when you hold long enough.

Now what if you just held it for a year? And you did it randomly with no strategy. What is your chance of making money?

Out of 65 years, there were 13 losing years, which statistically means your chance of making money in a one-year period would be 74% and your chance of losing will be 26%.

Is that considered good?

I would say it is not bad given the fact that there is no strategy and just pure random chance. And it is better than any casino games you can play.

This same concept applies to any other market.

The lesson: You can potentially make 10-12% annual returns with little to no effort by buying and holding the index on the long term based on historical performance.

If Exchange Traded Funds (ETFs) don’t interest you and you want to about other investing strategies, check out my post about Value Momentum Investing™ – a strategy that I came up with by combining both Value and Momentum investing strategies.