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ETFs

An Outstanding Global-Stock Fund

This is one of the broadest and cheapest funds in its Morningstar Category.

World-stock funds provide an easy way to access a globally diversified portfolio without the additional complexity that comes with holding distinct U.S. and non-U.S. stock funds. Vanguard Total World Stock ETF VT is one of the best global-stock funds available. It invests in thousands of stocks of all sizes in every major market. The small-cap firms in its portfolio provide cleaner access to local economies and help diversify its large-cap multinational holdings. This is one of the broadest funds in the world large-stock Morningstar Category, and its ultralow fee underscores its Morningstar Analyst Rating of Silver.

VT tracks the market-cap-weighted FTSE Global All Cap Index. It holds more than 7,500 names, while its 10 largest holdings represent only 8% of assets. By comparison, the average fund in the category holds fewer than 200 stocks and has 39% of assets in its top 10.

Market-cap-weighting harnesses the market's collective wisdom, effectively mitigates turnover, and saves on trading costs. It also keeps risk in check by emphasizing multinational firms that are large and stable, while underweighting smaller and more volatile companies. While the fund tilts toward large-cap stocks, its inclusion of small-cap stocks improves diversification. This portfolio accurately represents the composition of the global market, with U.S. stocks accounting for just over half of the portfolio. American companies like Apple AAPL, Microsoft MSFT, Amazon.com AMZN, and Johnson & Johnson JNJ are among its largest holdings.

The fund's long-term performance has not stood out against its peers, with total and risk-adjusted returns that were similar to the category average between July 2008 and June 2018. Its active competitors were able to take advantage of superior stock selection and earned higher returns by taking on more risk. The fund's rock-bottom 0.10% expense ratio is cheaper than 97% of its category peers and should be a sizable advantage over the long run.

Fundamental View Market-cap-weighted, globally diversified funds such as this one take a truly passive approach to the global stock market. These types of funds provide investors with diversified access to the entire investment opportunity set that active managers select from and make no active bets on specific regions, countries, sectors, or individual stocks. This type of approach essentially free-rides on the collective opinions of active investors. The weight of a given stock, country, or sector will therefore be an outcome of their collective judgment. As a result, this type of fund likely won't be a top performer over short periods of time. However, its low fee should give it a long-term edge.

Market-cap-weighting skews the portfolio toward large multinational corporations while underweighting companies that are smaller and potentially cheaper. Many of these large, global firms have operations and revenue streams that span multiple regions, so they don't provide clean exposure to their home markets. But the fund's inclusion of small caps gives it wider reach than its large-cap-focused competitors. Many of these smaller companies have business operations that are more closely tied to their local economies and therefore can help diversify a portfolio of large-cap stocks.

This global portfolio eliminates the need to hold separate U.S. and international stock funds. While the split tends to hover around 50/50, it can and has diverged in the past. Prior to the 2008 financial crisis, U.S. stocks represented approximately 42% of the total global market. But the relatively strong performance of the broader U.S. market following the crisis has pushed their weight in the fund up to 53% as of June 2018.

Additionally, companies listed in emerging markets collectively represent about 8% of this fund's assets, which is comparable to the category norm. Stocks listed in these countries tend to be more volatile than those from developed markets. But their relatively small position in this fund shouldn't increase its risk.

The portfolio's country and regional weights are similar to the category average, but the split between U.S. and foreign stocks can affect the fund's risk profile. Stocks from the eurozone account for 10% of this fund, while those from Japan and the United Kingdom make up an additional 8% and 6%, respectively. Like many of its competitors, the fund does not hedge its foreign-exchange risk. Therefore, it has exposure to currencies like the euro, yen, and pound. Changes in the exchange rate between these currencies and the dollar can add to the fund's volatility.

Portfolio Construction The fund tracks a broad market-cap-weighted index of stocks from developed- and emerging-markets countries. Its market-cap-weighted approach effectively diversifies risk and captures the market's collective opinion of each stock's value, earning a Positive Process Pillar rating. This fund's benchmark, the FTSE Global All Cap Index, targets stocks representing the largest 98% of the global stock market by market cap. It applies buffer rules around this cutoff to mitigate unnecessary turnover, and qualifying stocks must also meet liquidity requirements to make the index easier to track. The index weights its holdings by market cap, which further mitigates turnover and the related trading costs. This approach also reflects the market's view of each stock's relative value and reduces exposure to stocks as they become smaller and cheaper while tilting the portfolio toward large profitable companies. The index is reconstituted semiannually in March and September. The managers employ full replication to achieve their index-tracking mandate.

Fees Vanguard charges an annual expense ratio of 0.10% for this fund, making it one of the cheapest in the world large-stock category and worthy of a Positive Price Pillar rating. Vanguard also offers this strategy as a mutual fund, Vanguard Total World Stock Index VTWSX, which charges 0.19% and has a $3,000 investment minimum. The fund's total returns have lagged its target index by 11 basis points annually over the trailing five years through June 2018, an amount comparable to its expenses.

Alternatives IShares MSCI ACWI ETF ACWI is a close competitor to VT and has an Analyst Rating of Bronze. It covers global large- and mid-cap stocks from foreign markets and the United States, including emerging markets. Like VT, its holdings are weighted by market capitalization, but it charges a higher 0.32% expense ratio.

Currency-hedged strategies can eliminate most of the foreign-exchange risk that comes with foreign stocks. IShares Currency Hedged MSCI ACWI ex U.S. ETF HAWX (0.35% expense ratio) tracks the same index as ACWI, but the managers use forward contracts to hedge away its currency risk. This is an effective long-term strategy. Over its brief three-year history between July 2015 and June 2018, the fund's volatility ran about 12% lower than ACWI's.

Another way to control risk is to invest in a strategy that directly attempts to mitigate volatility, like Vanguard Global Minimum Volatility VMNVX. This fund uses an optimizer to construct the least volatile portfolio of global stocks, subject to several constraints. It attempts to keep country and sector weights close to those of the cap-weighted global market portfolio. This fund also hedges its foreign-currency risk, which should help further reduce its volatility. It charges an expense ratio of 0.17% and has a Silver rating.

IShares Edge MSCI Min Vol Global ETF ACWV (0.20% expense ratio) is similar to Vanguard Global Minimum Volatility and has a Silver rating. It also uses an optimizer that attempts to construct the least volatile portfolio of stocks, but, unlike the Vanguard fund, it does not hedge its currency risk.

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