When people ask me what their first stock investments should be, I suggest they consider a mutual fund that follows a large stock index, like the S&P 500. They’re widely available, easy to understand, and can be very inexpensive.
Most importantly, they’re broadly diversified. The S&P 500 tracks the value of 500 companies representing about 75% of the US equities market, according to Standard and Poor’s (which manages the index).
I once recommended such a fund to someone who asked me, “But what if all those companies go bankrupt?”
I said, “These are 500 of the largest companies in our economy. If they all fold, you won’t need investments. You’ll need to know how to hunt.”
In my professional opinion, only a complete breakdown of our economic system could cause a failure of all these companies at once. This would mean that no one would be paying for cars, or phones, or food, or clothing, or rent.
Here’s why it’s so improbable that an index like the S&P 500 could become worthless. When you invest in equities, you become a part owner in that company. When the company makes money, the value of your share of the company goes up. And as a part owner, you are entitled to a proportionate share of the company’s profit. After all, profit is why companies are in business to begin with.
As long as people can make more money by being in business than by putting their cash in the bank, businesses will be around to sell us goods and services. Someone will always believe they can make a better loaf of bread, or bicycle, or shirt—one that’s so good others will trade something of value (money, for instance) in order to have them. So they’ll put their money into a business, because they can make more that way than by putting it in the bank.
Naturally, this makes it highly unlikely that our economy could collapse all at once. As long as there is still profit to be made by doing a job better than other people can do it, there will be people willing to pay for it. That’s how business and human nature work.
If memory serves, during the Great Recession, someone explained exactly this point using a music video. Did a good job, too, as I recall.