Before You Buy Vanguard's S&P 500 ETF, Here Are 3 I'd Buy First | The Motley Fool (2024)

This class of stocks has been largely left behind, and you can buy them all with a simple index fund.

The Vanguard S&P 500 ETF (VOO -0.84%) is one of the most popular investment options for index investors. And with good reason. Its low expense ratio and strong track record of tracking the index make it a great option for those simply looking to match the .

This year, Vanguard S&P 500 ETF shareholders have been treated to a return of around 17%. But those returns were driven by just a handful of megacap stocks held by the fund. Meanwhile, the rest of the market has been roughly flat, and there are some segments that have been severely beaten down.

Before you start buying the Vanguard S&P 500 ETF or adding to your existing position, there are three other ETFs you should consider first. These ETFs track a part of the market that's been beaten down lately but has historically outperformed the S&P 500. And at today's prices, they look more appealing than ever.

Think small to win big

Over the long run, small-cap stocks have outperformed large-cap stocks. And small-cap value stocks have outperformed even more.

After such strong returns from the largest companies in the public market, small-cap value stocks are trading at extremely low valuations. The S&P 600, which tracks profitable small-cap companies, has a P/E ratio of around 11.6. That's a valuation the index has only rarely seen over the past 15 years.

But before you get too excited, there's good reason for the low valuations of small-cap stocks.

For one, small caps are much more susceptible to economic downturns than large caps. It's tough to imagine Apple going out of business during an economic recession. But a lot of small caps could see their stocks go to $0 per share if that were the case. Given the ongoing macroeconomic uncertainty, investors are more wary of small-cap stocks.

On top of that, small caps are far more susceptible to interest rate changes than larger, more established companies with solid balance sheets. They're generally more reliant on debt for growth, which means as borrowing costs climb they can have a significant impact on operating costs. With the "higher-for-longer" interest rates established by the Federal Reserve, small caps have felt a lot of pain and could continue to feel it.

As a result of higher interest expenses, small caps aren't producing the outsize profit growth that's led them to outperform large caps historically.

But the tide is turning for small caps

With small-cap stocks trading at historically low valuations, it could be a great opportunity to buy shares in a small-cap ETF before the economic environment turns around.

It's very possible the Fed is done raising interest rates. Practically no one expects the Fed to raise interest rates next month at its next meeting. Meanwhile, 24% of futures traders believe it could lower rates as soon as next March. That could be a major relief to many companies that are particularly susceptible to interest rate changes, setting the table for stronger earnings growth from small caps.

That said, there's still the risk of entering a recession. That would likely see interest rates come down much faster but have far more deleterious effects on small companies. One way to protect against that possibility is to invest exclusively in profitable companies like those found in the S&P 600 small-cap index.

Three ETFs to consider for the small-cap opportunity

There are a bevy of small-cap ETFs you could choose from. I'm highlighting three options based on your risk tolerance and goals, but there are plenty more to choose from.

  1. SPDR Portfolio S&P 600 Small Cap ETF (SPSM 0.95%). The S&P 600 includes companies with market caps between $850 million and $5.2 billion who have reported positive profits over the most recent quarter as well as over the last four quarters combined. The SPDR ETF has the lowest expense ratio among its peers that also track the S&P 600 index, so it's a great option for those looking to invest specifically in profitable small caps.
  2. Vanguard Small-Cap Value ETF (VBR 0.81%). This Vanguard ETF seeks to track the CRSP US Small Cap Value Index. The index tracks companies in the bottom 15% of publicly traded stocks by market cap, so it's not as exclusive as other small-cap indexes. That said, the Vanguard Small-Cap Value ETF has a lower expense ratio than just about any other small-cap value index fund. The reason small-cap value may appeal to you is because it has been the hardest-hit segment of the market recently -- by far. Additionally, Small-Cap Value has historically outperformed small caps and the market as a whole.
  3. Avantis US Small Cap Value ETF (AVUV 1.28%). Investors seeking a little more active management might consider the Avantis Small Cap Value fund. It buys stocks in the Russell 2000 index trading at good value with strong profitability characteristics. This more active management style is more viable in less efficient small-cap markets than in large-cap stocks. Indeed, Avantis has been able to weather the storm over the past two years while the Russell 2000 index has struggled. With a modest 0.25% expense ratio, it may be worth picking up shares, but there's always a risk it underperforms the index.

Considering the heavy concentration in the S&P 500 right now, index fund investors should look to diversify away into smaller companies. Any of the above three ETFs would be the first place I look if I were thinking of investing more in index funds.

Adam Levy has positions in Apple. The Motley Fool has positions in and recommends Apple and Vanguard S&P 500 ETF. The Motley Fool has a disclosure policy.

Before You Buy Vanguard's S&P 500 ETF, Here Are 3 I'd Buy First | The Motley Fool (2024)

FAQs

What is the best way to buy an ETF for the S&P 500? ›

The easiest way to invest in the S&P 500

The simplest way to invest in the index is through S&P 500 index funds or ETFs that replicate the index. You can purchase these in a taxable brokerage account, or if you're investing for retirement, in a 401(k) or IRA, which come with added tax benefits.

How many S&P 500 ETFs should I buy? ›

SPY, VOO and IVV are among the most popular S&P 500 ETFs. These three S&P 500 ETFs are quite similar, but may sometimes diverge in terms of costs or daily returns. Investors generally only need one S&P 500 ETF.

Is the Vanguard S&P 500 ETF a good investment? ›

You never want to use past results to predict future performance, but given the overlap of companies and current market trends (especially in tech), the Vanguard Growth ETF is in a great position to continue producing long-term market-beating returns.

Should I buy VOO now or wait? ›

VOO ETF FAQ

Currently there's no upside potential for VOO, based on the analysts' average price target. Is VOO a Buy, Sell or Hold? VOO has a conensus rating of Moderate Buy which is based on 397 buy ratings, 101 hold ratings and 7 sell ratings.

What is the cheapest way to buy the S&P 500? ›

If you want an inexpensive way to invest in S&P 500 ETFs, you can gain exposure through discount brokers. These financial professionals offer commission-free trading on all passive ETF products. But keep in mind that some brokers may impose minimum investment requirements.

What is the best performing S&P 500 index fund? ›

Top S&P 500 index funds in 2024
Fund (ticker)5-year annual returnsExpense ratio
Vanguard S&P 500 ETF (VOO)14.5%0.03%
SPDR S&P 500 ETF Trust (SPY)14.5%0.095%
iShares Core S&P 500 ETF (IVV)14.5%0.03%
Schwab S&P 500 Index (SWPPX)14.5%0.02%
4 more rows
Apr 5, 2024

Is 3 ETFs enough? ›

Experts agree that for most personal investors, a portfolio comprising 5 to 10 ETFs is perfect in terms of diversification.

How many Vanguard ETFs should I own? ›

Build a fully diversified portfolio with just 4 ETFs

This level of diversification can help reduce your overall investment risk while making it easier to manage your portfolio.

What is the 3% limit on ETFs? ›

Under the Investment Company Act, private investment funds (e.g. hedge funds) are generally prohibited from acquiring more than 3% of an ETF's shares (the 3% Limit).

What is Vanguard's best performing ETF? ›

10 Best-Performing Vanguard ETFs
TickerCompanyPerformance (Year)
VGTVanguard Information Technology ETF30.75%
VFMOVanguard U.S. Momentum Factor ETF27.30%
VOOGVanguard S&P 500 Growth ETF26.64%
MGCVanguard Mega Cap 300 Index ETF25.51%
6 more rows
6 days ago

Is it better to buy Vanguard ETFs through Vanguard? ›

Key Takeaways. Investors can buy and sell Vanguard mutual funds and ETFs through any number of brokerage firms and financial advisors. If you buy directly through Vanguard, you may benefit from lower fees, better customer service, and additional product research.

How risky is Vanguard 500 Index Fund? ›

The key risk for the fund is the volatility that comes with its full exposure to the stock market. Because the 500 Index Fund is broadly diversified within the large-capitalization market, it may be considered a core equity holding in a portfolio.

Should I buy SPY or VOO? ›

Over the long run, they do compound—those fee differences—and investors have been putting a lot more money into VOO versus SPY. That is the reason why we view VOO slightly better than SPY. And that is just the basic approach, which is the lower the investor can pay, the better the investment is.

Which one is better, VOO or SPY? ›

VOO earns a top rating of Gold, while SPY earns the next best rating of Silver. Almahasneh says the reason is fees. VOO charges 0.03%, while SPY charges 0.09%. With all else equal, the fund with the lower fee is more aligned with investors' best interests.

Why is VOO so popular? ›

Vanguard S&P 500 ETF holds a Zacks ETF Rank of 2 (Buy), which is based on expected asset class return, expense ratio, and momentum, among other factors. Because of this, VOO is a great option for investors seeking exposure to the Style Box - Large Cap Blend segment of the market.

What is the most popular S&P 500 ETF? ›

SPDR S&P 500 ETF Trust (SPY)

With hundreds of billions in the fund, it's among the most popular ETFs. The fund is sponsored by State Street Global Advisors — another heavyweight in the industry — and it tracks the S&P 500.

Is VTI or VOO better? ›

VTI is a total U.S. market fund and holds more than 3,500 stocks. VTI is better diversified and benefits from small and mid-cap stocks that grow into large caps. VOO is less diversified, tracking the performance of the S&P 500 Index. VOO excludes small and mid-cap stocks.

Is SPY better than VOO? ›

In the past year, SPY returned a total of 21.88%, which is slightly higher than VOO's 21.42% return. Over the past 10 years, SPY has had annualized average returns of 12.23% , compared to 12.29% for VOO. These numbers are adjusted for stock splits and include dividends.

What is better S&P 500 Index Fund or ETF? ›

The Bottom Line. Both index mutual funds and ETFs can provide investors with broad, diversified exposure to the stock market, making them good long-term investments suitable for most investors. ETFs may be more accessible and easier to trade for retail investors because they trade like shares of stock on exchanges.

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