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Why S&P 500 Index Funds Are a Great Retirement Investing Strategy

Once you retire, you shouldn't just take all the money you have in savings and keep it in cash. Sure, doing so will protect you from losses, but it will also meanlosing out on substantial growth -- growth you'll need to keep up with inflation. Rather, you'll want to keep your money invested, and while bonds are a safe bet for retirees, stocks are important, too, since they typically generate much higher returns.

But if the idea of buying and holding individual stocks throughout retirement seems overwhelming, there may be a better solution for you: index funds. Index funds are set up to match the performance of existing indexes. And S&P 500 index funds track -- wait for it -- the S&P 500 to emulate its performance.

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Image source: Getty Images.

Now to be clear, not every index fund tracks the S&P 500. (Some index funds don't even track stock indexes at all.) But as a retiree, you might really benefit from S&P 500 index funds for these key reasons:

1. They offer solid diversification

Having a diverse portfolio is important at all times. In retirement, even more so. The reason? If you're consistently withdrawing from savings, a hard hit to your portfolio at the wrong time could subject you to massive losses that you struggle to recover from. But you're less likely to take that hard hit if you're invested in a wide array of stocks.

Here's another way to look at it. Imagine your portfolio consists of 10 stocks, and three get hammered back to back due to poor earnings. Suddenly, you're in trouble. But if you put your money into an S&P 500 index fund instead, guess what happens when three stocks within that index underperform? Chances are, not a whole lot.

2. They come with low fees

Investment fees can eat away your returns, and when you're relying on your portfolio for retirement income, that's a bad thing. The upside of all index funds is that they charge notably low fees, known as expense ratios, making them an affordable alternative to actively managed mutual funds.

But what you save on fees, you don't necessarily lose in terms of performance. While it's true that index funds aim to match the performance of the indexes they're tied to, not beat it, they often do better than actively managed funds. Case in point: In 2019, 71% of large-cap U.S. actively managed equity funds failed to match the performance of the S&P 500.

3. They don't require a lot of monitoring or guesswork

Index funds make investing a relatively stress-free endeavor. And at a time in your life when you want to spend your days enjoying retirement rather than actively managing an investment portfolio, that's a good thing. When you put money into an S&P 500 index fund, there's not much to do other than set it and forget it.

Set yourself up for a secure retirement

Generally speaking, index funds are a good bet for retirees, but if you want to narrow down your strategy even more, it could pay to focus on S&P 500 index funds, like the Vanguard 500 Index (NASDAQMUTFUND: VFIAX) or the Vanguard S&P 500 ETF (NYSEMKT: VOO). That said, there's risk involved in S&P 500 index funds: When the broader market tanks, so do your investments. But the stock market has a strong history of rebounding from downturns, so if you load up on S&P 500 index funds, there's a good chance you'll come out ahead.

Finally, none of this is to say that all of your stock investments should come in the form of S&P 500 index funds during retirement. There's absolutely nothing wrong with retaining individual stocks -- especially those that pay dividends. But if you're not sure how to assemble a retirement portfolio, starting with S&P 500 index funds is a good way to go.

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Maurie Backman has no position in any of the stocks mentioned. The Motley Fool owns shares of Vanguard S&P 500 ETF. The Motley Fool has a disclosure policy.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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