Would you invest in the individual stocks in an index fund?

Ask your investment, budget, and other money related questions here
Post Reply
RusticBohemian
Posts: 11
Joined: Sun Jan 22, 2012 4:33 pm
Contact:

Would you invest in the individual stocks in an index fund?

Post by RusticBohemian »

I'm very far from a competent investor. Most of my investments are in the Vanguard total stock market index - I just took Warren Buffet's advice about a decade ago. Seemed like a good idea at the time, and my investments have certainly done well since 2008.

But with so much money flowing into passive index funds now, it seems like every company's boat is rising, even when it shouldn't be.

Look at McDonald's. It's stock price has exploded over the last few years, but its debt has doubled since 2014, its income is stagnant, and it has already cut millions from operations. Who in their right mind would invest in McDonald's at its current valuation? They have nowhere left to grow.

There are easily 100 companies on the S&P 500 index that are in a similar boat, if not so bad. They just don't make sense as individual investments at their current evaluations to me...but I own them through my index, as do thousands of other investors.

Does this worry you? Eventually there's going to be a correction for these company's overvaluation, and we'll be stuck with them.

How do you look at this?

User avatar
unemployable
Posts: 1007
Joined: Mon Jan 08, 2018 11:36 am
Location: Homeless

Re: Would you invest in the individual stocks in an index fund?

Post by unemployable »

There's an ETF for everything nowadays, ya know

Dream of Freedom
Posts: 753
Joined: Wed Aug 29, 2012 5:58 pm
Location: Nebraska, US

Re: Would you invest in the individual stocks in an index fund?

Post by Dream of Freedom »

The Vanguard total stock market index holds 3656 stocks. Surely there are a few you wouldn't choose to buy on your own. They are also overweight technology 20.40% and financials 19.70%. Would you choose that specific sector allocation on your own? Maybe, maybe not. If you work in one of those industries it could present additional risk, because your income and investments are in the same thing and not as diversified as you think.

McDonalds doesn't look that terrible to me. But you asked who in their right mind would invest in it so I don't think I qualify. A quick look at their CFRA report shows that revenue is down but that is largely due to switching most of the company managed restaurants to franchised restaurants. A change from 81% in 2014 to 95% today. That has the effect of lowering revenue but raising margin. Earnings have been increasing though. CFRA also said:

"Also, we
note plans for about 1,000 new restaurant
openings during the year. Internationally, we
see improved trends across several markets in
Europe and Asia, benefiting from notable
improvements in Russia and China"

So maybe they can still grow.

ThisDinosaur
Posts: 997
Joined: Fri Jul 17, 2015 9:31 am

Re: Would you invest in the individual stocks in an index fund?

Post by ThisDinosaur »

If you own a total market index, and you are considering buying individual stocks to hedge, then you should pick from foreign and small cap stocks. Something not largely represented in your index funds.

I have some interest in the history of speculative market bubbles. And the current pro index fund arguments sound uncomfortably similar to things said in those times. "Markets are efficient" and "the wisdom of crowds" might be the answer in 100 years when people ask "what were they thinking?"

IlliniDave
Posts: 3845
Joined: Wed Apr 02, 2014 7:46 pm

Re: Would you invest in the individual stocks in an index fund?

Post by IlliniDave »

There's not much choice of individual stocks that don't show up in the total market index funds. Even with all the recent inflows retail index funds still only own a fraction of the total outstanding shares of its constituents. That valuations are high doesn't worry me per se, but it's something I pay attention to. Two years ago I went from buy to hold, and during 2018 I've sold ~20% of my US equities while treating ex-US as a hold. I've lost enough on-paper money through the years (though have made much more) that I just accept it is part of game.

The Old Man
Posts: 503
Joined: Sat Jun 30, 2012 5:55 pm

Re: Would you invest in the individual stocks in an index fund?

Post by The Old Man »

You should expand to a world fund. The USA represents about 50% of world total stock market capitalization. Vanguard has an index fund for it. They also have an index fund for World ex USA.

Post Reply