Own the Entire U.S. Equity Market in One Fell Swoop

This fund tracks the CRSP U.S. Total Market Index, which holds nearly every investable U.S. stock. Its market-cap-weighting approach reduces turnover because changes in the market value of each holding in the portfolio mirror changes to their weightings in the market.

Broad diversification is an intrinsic advantage of funds tracking market-capitalization-weighted total stock market indexes. However, market-cap weighting has its pluses and minuses. It can be a beneficial approach in momentum-driven bull markets, but it can also lead to significant sector and single-security concentration, as witnessed at the height of the technology bubble. So, market-cap-weighted indexes' greatest strength is arguably also their weakness.

A total-market fund such as this is a better approach for a passive equity allocation than combining separate size segment funds because it covers the full market-cap range and isn't forced to trade stocks as they move across market-cap segments.

Because this fund tracks the entire U.S. equity market, its performance should be similar to that of the average investor, before fees. But its low fee gives the fund a large and sustainable edge. The fund's 0.04% expense ratio is nearly the lowest in the Morningstar Category and gives it a large cost advantage over the average large-blend fund, helping its relative performance. The fund does carry meaningful risk. It fell 55% during the bear market from October 2007 through March 2009. As a passive index fund, the fund stays fully invested all the time, so it won't miss a rally, but it exposes investors to the full brunt of market downturns. Over the past 10 years through June 2017, the fund returned 7.4% annually, outpacing the large-blend category average return by 1.7% and landing just shy of the category's top decile based on risk-adjusted returns.

Fundamental Broad market-cap-weighted indexes offer efficient exposure to stocks. This is because market participants quickly incorporate new information into stock prices, which indexes use to weight their holdings, effectively free-riding active investors' price-discovery process. Furthermore, given advances in information technology and the growth in the portion of investable assets that are managed by skilled professional investment managers, the market has arguably become more efficient over time, making it harder for active managers to consistently outperform.

The second leg of the investment thesis for broad index funds is their cost advantage. They are cheaper to manage than actively managed alternatives. Their sponsors don't have to pay portfolio managers and investment analysts to identify under- or overvalued stocks to be added to or sold from their portfolios. Also, market-cap-weighted index funds tend to have lower turnover than actively managed funds. Turnover has a price. Trading costs contribute to the headwinds facing active strategies, and higher-turnover actively managed funds will regularly distribute taxable capital gains to their shareholders. This creates an additional drag on these funds' performance in the case where they are held in taxable accounts. Taken together, these costs are the largest and most persistent drag on the performance of actively managed strategies.

Market-cap-weighted indexes like the CRSP U.S. Total Market Index have some noteworthy drawbacks. By owning "the market," investors are relying on other market participants to price stocks on their behalf. While over long stretches of time market participants have done a good job of valuing stocks, these long horizons have been marked by episodes of mania and panic. The mania most often cited as an example of the drawbacks of owning indexes like the S&P 500 outright was the technology bubble, when technology stocks accounted for nearly one third of the index's market cap. Episodes like this are unavoidable for index investors and create opportunities that have historically been exploited by (some) active managers.

This well-diversified portfolio lands in the large-blend category because its market-cap-weighting approach pulls its portfolio toward the largest U.S. stocks. Indeed, this fund's average market capitalization is less than half of the average fund in the large-cap blend category because most peers don't delve into small- and micro-cap names. This fund invests about 7% of its portfolio in small-cap stocks and another 3% in micro-caps. Its top 10 holdings represent around 15% of its holdings, while the large-cap blend category averages over 20%. Most of the fund's sector weightings do not differ materially from the large-blend category average. It has more exposure to real estate and

stocks, but less exposure to the consumer staples and healthcare sectors than the category norm. Its cash balance averaged 0.5% over the past decade through June 2017. This figure is much lower than the amount of cash held by its peers. A lower cash balance will help during bull

but exposes the fund to the full brunt of bear markets.

Portfolio Construction This fund represents the entire investable U.S. equity market and effectively diversifies risk. It earns a Positive Process Pillar rating.

The fund tracks the CRSP U.S. Total Market Index, which holds almost every liquid U.S. stock. It includes all stocks with a primary listing on a major U.S. stock exchange with a market cap of at least $10 million. The fund employs full replication for the largest 1,200 or so stocks in its portfolio--owning each in their corresponding index weightings--and then samples from the remaining smaller-cap stocks. However, this fund's large asset base allows it to replicate the index more completely than most other total-market funds. The resulting portfolio consists of approximately 3,600 holdings, the same as the index. While the fund holds nearly all common equities and REITs, it excludes business-development companies, master limited partnerships, ADRs, and royalty trusts. The fund uses securities-lending revenue to reduce costs.

This fund has changed its benchmark index twice since its May 2001 inception. Up until April 2005, It tracked the Dow Jones U.S. Total Stock Market Index (formerly the Dow Jones Wilshire 5000 Index). From April 2005 until June 2013, it followed the MSCI US Broad Market Index. These changes were largely immaterial. Vanguard's desire to reduce index-licensing fees drove the most recent index change. This fund minimizes its cash drag by using derivatives to equitize cash.

Fees This fund levies a low fee of 0.04%, which is a fraction of the 0.90% median levy its large-cap blend category peers charge, meriting a Positive Price Pillar rating.

During the three-year period ended June 2017, the fund lagged its benchmark by 2 basis points per year. This implies the fund has been able to more than offset some of the drag created by its fee through a combination of savvy portfolio management techniques and securities lending.

Alternatives

Investors looking for one fund to cover most of the U.S. equity market have a variety of alternatives available.

There are also plenty of dedicated U.S. large-cap ETF options.

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