Should Small-Cap Stocks Be Included in Investment Portfolios?
There’s an ongoing discussion among investors about the role of small-cap stocks in their portfolios. For quite a while now, larger companies, particularly those in tech, have outperformed smaller firms. However, that trend might be shifting soon.
The iShares Russell 2000 ETF (I.W.M.) is a well-known index ETF featuring more than 2,000 small-cap stocks. It contrasts with the S&P 500 (^GSPC), which has recently shown that while large-cap stocks have led the market, small companies are also reporting impressive earnings and might be undervalued.
If you’re interested in small-cap stocks, it’s worth noting that you don’t necessarily have to pick between large and small companies. The Vanguard Total Stock Market ETF (VTI) offers an investment solution that covers around 3,500 stocks, spanning large, mid, and small-cap categories.
In fact, the iShares Russell 2000 ETF did better than the Vanguard Total Stock Market ETF during the first half of the year and the past year overall. But, the question remains: can this momentum continue?
Looking at the bigger picture, VTI has outshone IWM significantly over the last decade leading up to June 30.
When considering which index fund might suit your portfolio best, it’s helpful to examine both options.
iShares Russell 2000 ETF (IWM): A Long-Standing Small-Cap Fund
The iShares Russell 2000 ETF is often highlighted as a premier option for small-cap investments. It’s composed of a total of 2,021 stocks, featuring a mix of established tech companies, along with various small and medium enterprises across many sectors.
Here’s a breakdown of the biggest sectors in this fund:
- Health Care: 20.02%
- Finance: 18.96%
- Industrials: 15%
- Information Technology: 13.86%
- Consumer Discretionary: 9.65%
Since its inception back in May 2000, this fund has generated an annualized return of 8.9% over 26 years. But, interestingly, this return is lower compared to the S&P 500’s average of about 10% and the 9.6% from Vanguard Total Stock Market ETF which started in May 2001.
Vanguard Total Stock Market ETF (VTI): A Comprehensive Choice
When one thinks of broad index funds, the S&P 500 often comes to mind. Yet, the Vanguard Total Stock Market ETF (VTI) is actually broader and more diverse. Instead of just focusing on the top 500 U.S. stocks, VTI encompasses a total of 3,484 stocks across all sectors and sizes.
The leading sectors within this ETF include:
- Technology: 42.3%
- Consumer Discretionary: 12.8%
- Industrials: 11.8%
- Finance: 9.7%
- Health Care: 8.5%
Notably, the Vanguard ETF has a stronger technology focus than the Russell 2000 ETF. Its top ten holdings consist entirely of significant tech stocks, making up nearly 35% of its entire portfolio. This diversification leads to better performance; over five years, VTI has produced an average annual return of about 12.2%, while the iShares Russell 2000 ETF returned approximately 6.9% over the same duration.
Why Choose VTI Over IWM?
Speaking personally, I prefer the Vanguard Total Stock Market ETF (VTI) for my investments. Primarily, it’s because VTI offers greater diversification with its wide array of over 3,400 stocks. It captures a full spectrum of U.S. stocks, making it less risky than just investing in small or large caps. Additionally, VTI has impressively low expenses—a mere 0.03% compared to the iShares Russell 2000 ETF’s 0.19%.
It’s tough to predict whether small-cap or large-cap stocks will outclass each other over the long term. Personally, I think a balanced approach makes sense; owning both allows access to a well-rounded market. For long-term investors—think five years or more—having the broader range offered by “all stocks” rather than just small caps seems like the smarter route.
