Vipers vs. iShares

Barclays Global Investors was the first big asset manager to market ETFs to the masses, and the firm's iShares family of ETFs is easily the best-known brand in the business. Vanguard is nipping at Barclays' heels, though. Since launching its first ETF in 2001, the  Viper share class of the Vanguard Total Stock Market Index Fund  (VTI), the firm has gone on to roll out more than 20 other ETFs. Moreover, the firm's reputation as the indexing king among retail investors and its uniquely low cost structure may give it an edge going forward. As it stands, many iShares and Vipers ETFs compete head to head for assets. That's great for investors: It gives them additional choices, and it should help keep fees low. But whose lineup has the edge?

Variety
This isn't much of a contest. There are a couple dozen Vipers covering most of the domestic-equity style and market-cap spectrum, as well as several sectors. Investors also can cobble together total international stock exposure with three foreign-equity Vipers.

Nobody, however, has more ETFs tracking more stock markets, styles, regions, or industries than iShares. It's also the only ETF family with fixed-income offerings and is branching out into commodities with its iShares Comex Gold (IAU) and a proposed silver ETF. Vanguard offers a tidy tool kit for ETF investors, but iShares is like the Craftsman supersized, multidrawer implement chest.

This isn't a real advantage, though. With traditional mutual funds, you might want to aggregate your investments in a single family to ensure you only receive a single statement, or you might like the privilege of exchanging one fund in the family for another. But none of this applies to ETFs: You can buy an ETF from any family through your brokerage account, and they all can be tracked on the statement for that account. There are also no exchange privileges with ETFs.

Expenses
This also isn't a close call. IShares are cheap, but Vipers are even cheaper. The average iShares ETF has an expense ratio of 0.43%. The typical Viper charges less than half that: 0.22%. No Viper charges more than 0.28%, and the cheapest of the lot, Vanguard Total Stock Market Vipers and Vanguard Large Cap Vipers (VV), exact just 0.07%, making them the lowest-cost large-blend funds available. As with its traditional funds, Vanguard's mutual ownership structure allows it to deliver services at cost. Meanwhile Barclays bakes into iShares' expense ratios the price of marketing to financial planners and advisors.

Tax Efficiency
Both iShares and Vipers should be more tax efficient than traditional funds because they are all low-turnover index offerings. ETFs, however, have an added advantage. Small investors buy and sell shares among themselves through a broker on an exchange, and the large ones that deal directly with the funds use an in-kind purchase and redemption process. That means they trade baskets of securities, not cash, for fund shares and vice versa. So ETF managers don't have to sell securities to raise cash to accommodate investor behavior. Furthermore, they can use the in-kind redemption process to purge their funds of low-cost-basis stocks, or those with the biggest potential capital gains.

Vanguard's ETFs are different and a tad controversial, though. They are share classes of conventional funds, not stand-alone entities. This could be a disadvantage at tax time, some critics argue, because an ETF share class still might have to distribute capital gains if its parent fund has to sell holdings to meet redemptions in the traditional share classes. Vanguard contends conventional share classes can help Viper tax efficiency by realizing losses that can be used to offset gains for all share classes. Morningstar senior analyst Chris Traulsen examined this issue last year and decided that while the stand-alone ETFs could have a tax edge over exchange-traded share classes in certain cases, such as when the conventional share classes of the fund have more assets than the exchange-traded class, it wasn't a big or definitive advantage.

So far, Vanguard's oldest and largest Vipers, Vanguard Total Stock Market Vipers and  Vanguard Extended Stock Market Index Vipers (VXF), have never made capital gains distributions. Two of the newer Vipers, however, Vanguard REIT Index Vipers (VNQ) and Vanguard Consumer Staples Vipers (VDC), have paid out gains in the last year. Meanwhile, no iShares ETF has distributed a capital gain since 2001, though in prior years a number of funds, including  iShares S&P 500 Index (IVV), had issued occasional capital gains. Call this one even.

Benchmarks
What Vanguard lacks in selection, it makes up for in quality. The construction methods of the MSCI Indexes favored by the firm make them arguably more representative of the stock universes they represent than many of the benchmarks tracked by iShares, such as the S&P/Barra growth and value indexes, or the Russell bogies.

For example, Vanguard's Total Stock Market Viper includes stocks that are based overseas but conduct most of their business domestically, unlike offerings such as the  iShares Russell 3000 Index (IWV). The MSCI sector indexes are often less concentrated than similar iShares. MSCI's style-based equity indexes also use eight growth and valuation factors to determine what belongs in the growth and value indexes, as well as buffer zones to limit migration and turnover between styles and market-cap ranges.

It's telling that S&P, which used to rely on one factor to figure out a stock's style, is switching its style methodology from Barra to one fashioned by Citigroup (C) that is similar to MSCI's. By the time S&P makes the switch later this year, there will be more iShares tracking indexes that employ multifactor construction models, but not at Vanguard's costs. This is a photo finish, but it's Vanguard by a nose.

Conclusion
If having access to all flavors of ETF from one place is important to you, iShares is that place. Since there are no discernable advantages to going with a single ETF provider, though, it's dubious why that should be a paramount concern. Nevertheless Barclays clearly has the scale, skill, and expertise to run a big family of index funds, and its family is large and includes some tried-and-true benchmarks, as well as several novelties. Don't go with Barclays on reputation alone, though. Vanguard's rock-bottom costs, well-designed benchmarks, and indexing expertise make it an extremely competitive and, at times, better, alternative.

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Disclosure: Barclays Global Investors (BGI), which is owned by Barclays, currently licenses Morningstar's 16 style-based indexes for use in BGI's iShares exchange-traded funds. iShares are not sponsored, issued, or sold by Morningstar. Morningstar does not make any representation regarding the advisability of investing in iShares that are based on Morningstar indexes.