Famously successful investor Warren Buffett has said that most investors will be best served over the long term by putting their dollars into a fund that tracks the S&P 500 index. With a 302% total return over the last 10 years and a nearly 2,000% total return over the last three decades, it's not surprising that the Oracle of Omaha is touting the wisdom of putting your money in a diversified fund that tracks the popular benchmark index.
On the other hand, investors who are willing to take on more risk may be able to improve their overall performance and achieve better returns than the market at large. With that in mind, a panel of Motley Fool contributors have identified three ways that investors can put themselves in position to outperform the S&P 500 index. Read on to see why they think that these guidelines can help boost your total returns.
Win big by thinking small
Keith Noonan: As the name suggests, the S&P 500 index includes the stocks of 500 of the largest U.S.-based companies. While some massive companies including Apple and Amazon have managed to defy gravity and continue growing sales at a rapid clip, smaller businesses often have an easier time delivering relative growth.
If a company is already doing $40 billion in annual revenue, doubling its sales may prove to be a difficult feat -- or at least one that takes quite a while. Meanwhile, there are plenty of young companies that are doubling their sales within a few years' time -- or even quicker, and signs of rapid expansion often translate to strong stock performance.
Of course, investors also have to take on some extra risk when backing small companies. They're at earlier growth stages and typically have less defensive fortitude and ability to weather unexpected challenges. The upside is that backing a single small company that goes on to be enormously successful over the long term can more than make up for stocks in your portfolio that didn't live up to expectations
Imagine having bought Shopify stock in June 2015, when the company's market capitalization was still in the $2 billion range. Today, the e-commerce services company has a market cap of roughly $182.5 billion. That kind of growth would have had a defining impact on your portfolio performance.
So, how can investors find small-cap plays that go on to deliver big returns? Rather than looking for volatile stocks that could see major swings in the near term, it pays to focus on strong businesses that look poised to go the distance. It's easier said than done, but it pays to prioritize finding companies with competitive advantages that are operating in industries with favorable long-term growth outlooks. Not every one of your small-cap growth plays will pan out, but finding even a handful of big winners can transform your portfolio performance.
If it seems too good to be true...
James Brumley: Having been in this business for 20 years, I've seen it all. The funny thing is, there's not a lot of differentiation within this "all." The same basic themes -- and subsequent lessons -- are simply recycled. And one of the most common themes that ends up hurting investors more than helping them is buying into gimmicks that feel empowering at the time, but are ultimately short-sighted.
Yes, meme stocks like AMC Entertainment (NYSE:AMC) and BlackBerry (NYSE:BB) are examples of this phenomenon. There's certainly something thrilling about sticking it to a hedge fund with a highly shorted stock like AMC. Sparking a short squeeze that sends it upward again is the pinnacle of paybacks. The end result of such a rally, however, is that a bunch of short-term-minded traders now own an overvalued stock that's vulnerable to a similarly big wave of profit-taking
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