Introduction
Regular readers are familiar with my use of the term "Core ETF". For others, those are low-cost, index-based investments that are designed to match the market segment their index focuses on. From that long-term outlook platform, one would add actively-managed ETFs or CEFs for those comfortable with leverage, to enhance their portfolio allocation with the goal of adding Alpha.
When viewed by market-cap, the US equity market is usually divided into three parts, those being Large-, Mid-, and Small-Cap stocks, or four for those who break Micro-Cap into their own allocation. Index providers draw the dividing lines differently, which is why I recommend investors stick with one ETF provider if buying funds in multiple market-cap sectors.
Here I will review the Vanguard Total Stock Market Index Fund ETF (NYSEARCA:VTI) then compare owning it versus the three market-cap ETFs offered by Vanguard. VTI is my largest holding because it simplifies diversifying across market-caps within the US stock market, for which it rates as a permanent Buy as a Core ETF.
Vanguard Total Stock Market ETF review
Seeking Alpha describes this ETF as:
Vanguard Index Funds - Vanguard Total Stock Market ETF is an exchange traded fund launched and managed by The Vanguard Group, Inc. The fund invests in public equity markets of the United States. The fund invests in stocks of companies operating across diversified sectors. The fund invests in growth and value stocks of companies across diversified market capitalization. It seeks to track the performance of the CRSP US Total Market Index, by using representative sampling technique. Vanguard Index Funds - Vanguard Total Stock Market ETF was formed on April 27, 1992 and is domiciled in the United States.
VTI is high at $1.47t in AUM. Even with fees at just 3bps, Vanguard is generating for itself plenty of income, unlike investors, since the yield is under 1.4%.
Index review
CRSP US Total Market Index
- Comprised of more than 3,500 constituents across mega, mid, small, and micro capitalizations
- Represents 100% of the US investable equity market
- Reconstitution & Rebalance Frequency: Quarterly
- As of 8/23, CRSP will employ ICE’s Uniform Entity Sectors methodology for its cap-based, industry sector, and ESG indexes. The ICE Uniform Entity Sector methodology assigns each company to a Sub-Industry, and to a corresponding Sub-Industry Group, Industry, Industry Group and Sector.
Weighting: Market Cap Free Float
Holdings review
When I compared VTI sectors, shown next, adding 3300 stocks did not shift the sector weights much from what an S&P 500 Index ETF would show.
Vanguard's data uses Industry-level classifications.
Even with almost 3800 stocks, the Top 20 still account for 35% of the total portfolio weight. The combined weight of the smallest 3500 stocks is also 35%, which again shows, like Large-Cap ETF, VTI's results are largely driven by the same stocks.
Distribution review
The periodic growth in dividends has averaged between 5-7% over the past decade, enough to keep an investor's income outpacing inflation. That said, the 1.35% yield isn't why one would own this ETF.
VTI versus owning separate ETFs
Investors wanting to control their market-cap allocation can pick their own weights amongst three Vanguard ETFs.
- Vanguard S&P 500 ETF (VOO)
- Vanguard Mid-Cap Index Fund ETF (VO)
- Vanguard Small-Cap Index Fund ETF (VB)
Combining the ETFs should also lower the overall equity ratios, since VO and VB have lower values compared to both VTI and VOO.
Despite holding almost 3800 stocks, the market-cap and Value/Growth allocations between VTI and VOO are minimal. An investor could start out owning an equal amount in each of the other three, which would result in the following allocations.
That strategy would reduce the Large-Cap allocation by almost 60% while greatly increasing Mid- and Small-Cap weightings. The shift out of Growth and into both Blend and Value stocks is less noticeable. That illustrates the advantage of using the three focused ETFs versus owning just VTI: the control over the allocations by shifting those allocations amongst the ETFs. Of course, that assumes the investor has good market-timing skills. The next chart indicates how hard that could be.
Compared to either 3-way allocations, since 2010, just holding VTI was the better (and simpler) strategy. Not only was the CAGR the best, so were the Sharpe and Sortino ratios. Those facts would lead me to skip the three ETF strategy and stick with VTI, thus my Buy rating for the Vanguard Total Stock Market ETF as a core ETF.
Portfolio strategy
In prior articles where I discussed my Core ETF concept, readers asked if that could include more granular use of Core ETFs, such as owning the three market-cap ETFs instead of VTI? As mentioned here, yes for those willing to put in a little more effort, even if that is only doing periodic rebalancing. Going off that, here are different levels investors might design around.
One equity ETF for everything
Vanguard Total World Stock ETF (VT) or iShares MSCI ACWI ETF (ACWI)
US & INTL separated
Vanguard Total Stock Market ETF & iShares MSCI ACWI ex U.S. ETF (ACWX)
INTL using two ETFs
iShares Core MSCI International Developed Markets ETF (IDEV) & iShares Core MSCI Emerging Markets ETF (IEMG)
The same concept would apply to one's fixed income allocation and can be done on multiple levels of detail also. For Alpha, adding factor-based and/or actively managed ETFs would be done and that is where the investor would spend most of their due diligence time.
Alex Pettee is President and Director of Research and ETFs at Hoya Capital. Hoya manages institutional and individual portfolios of publicly traded real estate securities. Alex leads the investing group known as the Hoya Capital Income Builder, which uses the investment knowledge of several Seeking Alpha analysts provide members with insightful articles covering mostly individual stocks or funds. Occasionally an article cover will cover an investing strategy or other topic that investors need to be aware of, such as law changes that might effect their long-term strategy.
For more information about this Investors Group, click on this link:
https://seekingalpha.com/instablog/1723581-hoya-capital/5350609-retired-investor-teams-up-income-builder
