Vanguard S&P 500 ETF VOO is one of the best funds available in the large-blend Morningstar Category. As one of the cheapest exchange-traded funds in the category, it tracks the broadly diversified and market-cap-weighted S&P 500. It has a high probability of outperforming the category average over the long term, so it earns a Morningstar Analyst Rating of Gold.
The S&P 500 represents about 80% of the U.S. market by market capitalization, accurately reflecting the composition of the U.S. large-cap market and harnessing its collective wisdom. Large stocks tend to have more research analyst coverage than mid- or small-cap stocks, which tends to make this segment of the market more efficient than mid- or small-cap stocks. Fierce competition between well-informed market participants tends to result in stock prices that reflect publicly available information. However, over short periods, investors may overreact and either drive prices too high or low. Market-cap-weighting will increase or decrease exposure to stocks accordingly. This can at times lead to stock and sector concentration. That said, the fund's broad diversification and low-cost advantage far outweigh these minor disadvantages.
This portfolio effectively diversifies firm-specific risk and has proved tough to beat over the long term. Over the trailing 10 years ended January 2020, the fund's annualized return net of fees ranked in the top decile of all funds in the large-blend category.
Many companies in the portfolio are multinational firms with durable competitive advantages, which allows them to deliver strong profits. This can help them weather market downturns better than their smaller counterparts.
The ETF share class charges 0.03%, while the Admiral share class, Vanguard 500 Index VFIAX, charges 0.04%. These fees are the fund's greatest strengths. The fund is always fully invested, which should help it more fully capture the market's returns over the long term than most of its peers. And its turnover is among the lowest in the category, which helps mitigate transaction costs. Investors with a long-term horizon will likely come out ahead with this fund.
Process The fund employs full replication to track the market-cap-weighted S&P 500. This index effectively diversifies risk, harnesses the market's collective wisdom with low turnover, and accurately represents the composition of the U.S. large-cap market, supporting a High Process rating.
The index is maintained by a committee that selects 500 large stocks that reflect the composition of the U.S. market. This committee doesn't necessarily target the 500 largest U.S. stocks. This gives the S&P 500 greater flexibility than more-rules-based mechanical indexes that follow rigid guidelines. However, it reduces transparency. To be included in the index, stocks must meet market-cap, liquidity, and profitability criteria.The S&P 500 has a slight quality focus because new stocks must pass profitability screens before they are eligible to be added in the index. However, that screen is unlikely to have a big impact on performance because most large-cap stocks are profitable. The performance of the S&P 500 has historically been highly correlated with other large-cap indexes that follow more-mechanical construction rules, like the Russell 1000 Index.
The portfolio managers reinvest dividends and use derivatives to equitize cash and keep pace with the benchmark. The fund has historically used securities lending to generate additional income to offset expenses.
The fund's top 10 holdings account for about 23% of assets, which effectively diversifies firm-specific risk. The largest holding accounts for about 4.6% of the portfolio.
The fund mirrors the composition of the large-cap market, allowing the market to dictate its stock and sector weightings. This allows the fund to harness the market's collective view about the relative value of each stock and keeps turnover low--among the lowest in the category.
Most of the fund's sector weightings are similar to the category average. As of this writing, the fund is slightly underweight in technology and overweight in communication services compared with the category average. Additionally, the technology, materials, consumer staples, and communication-services sectors, which account for about 40% of the portfolio, generate a significant fraction of their revenues outside the United States. Utilities, real estate, and financials, which primarily source their revenue in the U.S., account for about 22% of the portfolio. Overall, the fund's constituents generate 40% of their revenue overseas.
Although it has a smaller market-cap orientation than the large-blend category average, this fund is representative of this category. When smaller stocks outperform larger stocks, it may give this fund a performance edge.
The fund's holdings manage their environmental, social, and governance risk similarly to the average large-blend peer.
People This fund is managed by a talented and experienced team supported by sophisticated technology, which facilitates tight tracking of the S&P 500, meriting an Above Average People rating.
Donald Butler and Michelle Louie manage this fund. Butler is a principal of Vanguard Group, has been with the firm since 1992, has managed investment portfolios since 1997, and has served as comanager of this fund since 2009. Louie has been with Vanguard since 2010 and began managing portfolios in 2014.
Index portfolio management at Vanguard is a team effort. Often one person takes responsibility for a single corporate action across all portfolios. Additionally, other portfolio managers are available to back up listed portfolio managers in their absence. At Vanguard, the portfolio management and trading functions are executed by the portfolio manager, which gives the managers a deeper understanding of the portfolio holdings than a dedicated trader might have.
The managers are supported by an index analytics team that communicates with index providers and researches upcoming index changes. The team then briefs the portfolio managers on specific changes, enabling them to focus solely on portfolio management and trading.
Vanguard has a culture of promoting talent from within the organization, as members of the index analytics team have been promoted to portfolio management and trading.
Performance Since its inception in September 2010, VOO has beaten the category average by 219 basis points annualized, with slightly lower risk. Much of this outperformance can be attributed to the fund's cost advantage, lower-than-average cash drag, and more favorable stock exposure in the utilities, consumer cyclical, and consumer defensive sectors compared with the category average.
The fund ranked in the top quartile over the trailing one, three, and five years through January 2020, consistently outperforming the category average while exhibiting slightly lower volatility. The fund also tended to hold up as well as most of its peers during downturns since inception, despite its lower-than-average cash balance.
This portfolio is always fully invested, which helps its category-relative performance during bull markets but could hurt during bear markets. Most actively managed funds in the category keep larger cash balances on hand to meet redemptions.
Over the trailing one-, three-, and five-year periods ended December 2019, the fund trailed the S&P 500 by an amount similar to its expense ratio.
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