I have personally always traded the SPDR S&P 500 ETF (SPY), both long and short in my portfolios because it is the largest and most liquid ETF product, based on America's main equity index. However, doing some research this week, I wonder if the smartest long-term, buy and hold index choice for the average investor may be the Vanguard S&P 500 ETF (NYSEARCA:VOO). Why? Lower annual management expense and stronger execution of exchanges/turnover in the underlying individual companies participating in the index have led to a slight return advantage over SPY and similar S&P 500 ETFs. My conclusion is investors wishing to buy an index ETF, and forget about it for 5-10 years, should concentrate their research and buying power on the Vanguard creation.
Image Source: Company Website
Vanguard Invented Index Funds
John Bogle founded The Vanguard Group in 1974. Mr. Bogle started the First Index Investment Trust in December 1975. Fidelity Investments Chairman Edward Johnson was quoted as saying he "[couldn't] believe that the great mass of investors are going to be satisfied with receiving just average returns." Over time, Bogle's fund was later renamed the Vanguard 500 Index Fund, tracking the Standard & Poor's 500 index. It started with comparatively meager assets of $11 million but crossed the $100 billion milestone in November 1999. Today, it controls $550 billion in assets, including roughly a third dedicated to the ETF product.
The biggest advantage of an index fund is investors are not required to manage/follow the market closely, or spend time analyzing numerous stocks and portfolios. In the end, most investors also find it difficult to beat the performance of the S&P 500 index, as trading emotions can cloud decision-making.
Exchange Traded Funds [ETF] are generally indexed investment funds similar to a mutual fund. However, ETFs are traded directly on a stock exchange, not sold/bought through a private company distributor. The SPDR SPY creation was one of the first to find acceptance with the investment community in January 1993. During September 2020, twenty-seven years later, ETF assets under management by Wall Street firms approached $5 trillion. The Vanguard Group controls/manages the largest mutual fund portfolio family by assets in the world, with a #2 ranking for U.S. ETFs at a 25% market share during 2019. BlackRock iShares was the leader in ETFs with a 39% market share.
While no-load (no added sales expense) mutual funds are engaged in the same indexed ownership strategy, with total returns nearly equivalent to the Vanguard ETF, the ability to quickly trade an ETF any time during the day is an advantage well worth contemplating. In contrast to the intraday liquidity of ETFs, mutual funds only allow you to liquidate or purchase units based on the daily closing price for the net underlying assets. In addition, no-load mutual funds report your portion of capital gains and dividend income each year for tax purposes to the IRS. If owned in a taxable brokerage account, you will have more complicated tax consequences owning a straight mutual fund design.
The Vanguard ETF is something of a hybrid for tax purposes. The ETF units are a "class" of shares tied into its original S&P 500 index mutual fund. If you own VOO in a tax-deferred IRA or 401(k) account, you don't have to worry about the immediate tax consequences of distributions, dividends, capital gains and asset shuffling in the underlying index.
This structure can be a double-edged sword when evaluating an investment in the Vanguard S&P 500 ETF in taxable accounts. Essentially, the setup allows for lower cost transactions, when individual company changes to match regular index substitutions occur. But, it also brings up minor tax considerations. The good news (I mean bad news) is an investor will have to pay taxes on gains eventually, no matter which ETF is chosen. In my mind, for most investors, total returns should be the primary determinant of value. Consulting with your tax advisor is always an intelligent move, if unsure how VOO fits your portfolio and investing style. Below is a screenshot from the Vanguard S&P 500 ETF prospectus in April explaining the almost identical long-term returns vs. the underlying theoretical index objective. I have the comparisons boxed in red outlines. Note: Vanguard after-tax projections use the highest tax bracket rate, for a worst-case tax scenario.
Image Source: Vanguard Prospectus
Expense Ratio and Asset Size Analysis
Vanguard's parent company expertise and related mutual fund family size have allowed this ETF to attain ultra-low trading expense, with great terms for transaction price, whenever securities are moved into and out of the fund. Below is a chart of the annual ETF management expense ratio, viewed against the SPDR SPY product, the iShares Core S&P 500 ETF (IVV), and no-load mutual fund brothers Schwab S&P 500 (SWPPX) and T. Rowe Price Equity Index 500 (PREIX).
Image Source: Author Generated
Again, assets under management are the greatest for Vanguard's S&P 500 product, when considering it is part of a larger $550 billion mutual fund grouping. Officially, the $170 billion ETF ownership class is enormous, trailing only the SPY and IVV iterations of S&P 500 indexing.
Image Source: Author Generated
Proof is in the Pudding
Performance differences between the five peers and competitors for your investment dollar are pictured below. I am looking at 1-month to 10-year reviews of total return performance, including dividends and before taxes, against the raw theoretical S&P 500 index construction. You can see the clear winner over five or ten years has been the Vanguard product, with ultra-low cost and highly favorable trade executions in components of the index.
Top 10 Positions in the S&P 500
Below is an industry-weighted graph of the 500 individual companies owned from Seeking Alpha's database.
The Top 10 holdings for each of the three largest index replicating ETFs are almost identical. Below is the listing for the Vanguard ETF, as of October 31st. Different classes of stock for companies like Alphabet (GOOG) (GOOGL) bring the total positions above 500.
I have drawn some quick price and volume charts of the Top 10 holdings to review. Apple (AAPL), Microsoft (MSFT), Amazon (AMZN), Facebook (FB), two classes of ownership for Alphabet/Google, Berkshire Hathaway (BRK.B), Johnson & Johnson (JNJ), Procter & Gamble (PG) and Nvidia (NVDA) are included.
The last 12-months of trading history are drawn, alongside some of my favorite momentum signals of buying and selling pressure. The Accumulation/Distribution Line, Negative Volume Index, and On Balance Volume indicators are pictured for each company to compare and contrast. Intraday buying intensity, price change on falling volume days vs. the previous session, and net dollar interest by investors on up vs. down days are measured by the three.
Lastly, I have drawn the Vanguard S&P 500 ETF graph using the same chart setup and indicators. Generally, major index ETFs witness a bullish uptrend in all three measurements of buying/selling. That is clearly the case for VOO the past 52-weeks.
Final Thoughts
Added gains of 1% to 7% over a five or ten-year period are not a huge difference. Yet, if your goal is to maximize returns before taxes, Vanguard's S&P 500 product stands out as the best in class. You get the strongest long-term returns from an S&P 500 index ETF design, using Vanguard's expertise to keep transaction and trading costs low when an index reshuffle of names is made.
The advantages of owning an ETF vs. a no-load mutual fund, in terms of intraday trading and lower yearly tax consequences, have convinced me to stick with them for my investing and trading. If you are searching for plain vanilla U.S. equity market exposure in an IRA or regular brokerage account, to buy and hold for many years, VOO should be near the top of your list for consideration.
Thanks for reading. This article should be a first step in your due diligence process. Consulting with a registered and experienced investment advisor is recommended before making any trade.
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This article was written by
Paul Franke
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Nationally ranked stock picker for 30 years. Victory Formation and Bottom Fishing Club quant-sort pioneer.....Paul Franke is a private investor and speculator with 37 years of trading experience. Mr. Franke was Editor and Publisher of the Maverick Investor® newsletter during the 1990s, widely quoted by CNBC®, Barron’s®, the Washington Post® and Investor’s Business Daily®. Paul was consistently ranked among top investment advisors nationally for stock market and commodity macro views by Timer Digest® during the 1990s. Mr. Franke was ranked #1 in the Motley Fool® CAPS stock picking contest during parts of 2008 and 2009, out of 60,000+ portfolios. Mr. Franke was Director of Research at Quantemonics Investing® from 2010-13, running several model portfolios on the Covestor.com mirror platform (including the least volatile, lowest beta, fully-invested equity portfolio on the site). As of April 2023, he was ranked in the Top 5% of bloggers by TipRanks® for stock picking performance on positions held one year.A contrarian stock picking style, along with daily algorithm analysis of fundamental and technical data have been developed into a system for finding stocks, named the “Victory Formation.” Supply/demand imbalances signaled by specific stock price and volume movements are a critical part of this formula for success. Mr. Franke suggests investors use 10% or 20% stop-loss levels on individual choices and a diversified approach of owning at least 50 well positioned favorites to achieve regular stock market outperformance. The short sale of securities in overvalued, weak momentum stocks as pair trades and hedges is also a part of the Victory Formation long/short portfolio design. "Bottom Fishing Club" articles focus on deep-value candidates or stocks experiencing a major reversal in technical momentum to the upside. "Volume Breakout Report" articles discuss positive trend changes backed by strong price and volume trading action.
Analyst’s Disclosure: I am/we are short SPY. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
This writing is for informational purposes only. All opinions expressed herein are not investment recommendations, and are not meant to be relied upon in investment decisions. The author is not acting in an investment advisor capacity and is not a registered investment advisor. The author recommends investors consult a qualified investment advisor before making any trade. This article is not an investment research report, but an opinion written at a point in time. The author's opinions expressed herein address only a small cross-section of data related to an investment in securities mentioned. Any analysis presented is based on incomplete information, and is limited in scope and accuracy. The information and data in this article are obtained from sources believed to be reliable, but their accuracy and completeness are not guaranteed. Any and all opinions, estimates, and conclusions are based on the author's best judgment at the time of publication, and are subject to change without notice. Past performance is no guarantee of future returns.
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