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Low rates will push stocks higher well in to 2016. Passive ETFs are still the best bet for average investors. VTI offers greater diversification, stronger performance, and lower fees than SPY. The purpose of this article is to discuss the attractiveness of the Vanguard Total Stock Market ETF (NYSEARCA: VTI ) as an investment option. To do so I will review the funds recent and long-term performance, current holdings, and trends in the market to determine if this investment is suitable for average investors. VTI has performed very strongly over the past few years, but with some serious headwinds on the horizon, it makes sense to revisit this investment strategy and see if it has the potential to be as profitable in the new year. First, a little about VTI. VTI attempts to track the performance of the entire stock market, unlike other popular ETFs, such as the SPDR Dividend ETF (NYSEARCA: SDY ) or the iShares Select Dividend ETF (NYSEARCA: DVY ), which track specific companies within the S&P 500 or Dow Jones, respectively. Th e fund is designed to track the performance of the CRSP U.S. Total Market Index and does so by holding stocks that are large, mid, and small-cap. As of 5/31/2015, VTI has 3824 stocks in its portfolio, making it one of the most diversified funds you can buy. Currently, VTI is trading at $107.95/share and pays a quarterly dividend of $.47/share, giving the fund an annual yield 1.74%. Year to date, the fund is up roughly 2% and over the past year the fund is up around 6% (both figures exclude dividend payouts, which would increase its total return). While VTI does not just track the Dow or S&P 500, it is worth noting that the investment has slightly outperformed those benchmark indexes over the past year, as they returned 5.5% and 6% , respectively. (Dividends give VTI its superior return.) Aside from its strong historic performance there are a few other reasons why I believe VTI will continue to outperform over the next 12-18 months. First, I expect stocks to continue to rise going in to 2016 because of macroeconomic events that will benefit the U.S. economy. Interest rates are going to stay low until at least the end of next year, U.S. hiring is coming to show grow – lowering the unemployment rate, and wages may finally be starting to climb for the average U.S. worker. Given these trends, I would look to increase positions in U.S. equities during market dips on issues such as Greek debt or other international concerns such as flare-ups in the Middle East. The U.S. economy is pushing forward, and the bigger trends over the next year will outweigh current headwinds and should increase stock prices. Let’s look at each point in turn, starting with interest rates. The on-going discussion on when the Federal Reserve will raise their key benchmark rate has been influencing the market for years. Most predictions indicate that in September, the Fed will finally increase rates for the first time since the financial crisis. When we get closer to that date, expect to see some volatility in the market and there is a chance equities could move lower as higher rates have the potential to curtail growth and stall the recovery. However, I think these fears are overblown and will provide investors with another good buying opportunity. While I just mentioned that interest rates are set to rise, the increases are sure to be modest and slow. In fact, Janet Yellen indicated, after the most recent Fed meeting, that interest rates will rise slower than previously anticipated . The current consensus now is that rates will not exceed 2% by the end of 2016, meaning that the U.S. will continue to experience a historically low rate environment for at least another year and a half. I think that the market will benefit under these conditions, as the Fed will be signaling that the U.S. economy is strong enough to stand on its own, yet rates will still be low enough to encourage investors to search for a greater return in the stock market. Second, U.S. hiring has been steadily increasing and the Labor Department recently reported that, while the number of people seeking unemployment aid rose slightly last week, the figures remained at a historically low level that signals “an improving job market.” Job growth is especially important for the stock market as the resulting domino effects, such as increased consumer spending, increased demand for housing, and greater consumer confidence, are all positive for equities. In fact, these trends are already beginning to take hold as The Commerce Department recently reported that consumer spending rose 0.9 percent last month (May). Finally, wages, a drag on the U.S. economy for some time, may be finally starting to rise. An increase in wages will benefit the economy and stocks much in the same way that the improving employment figures will, discussed in the previous paragraph. May’s figures indicate that the “average wage of American workers rose 0.3% in May to $24.96 a hour, pushing the increase over the past year up to its highest level since mid-2013.” If this trend continues, inflation will start to increase and equities will continue their march higher, directly benefiting VTI. While the trends I just talked about will benefit VTI, they will also benefit most equity investments, so I will now point out why I prefer VTI to other similar investments, such as the SPDR S&P 500 Trust ETF ( SPY). VTI and SPY have almost identical returns over the past year and pay similar yields of 1.85% and 1.94%, respectively. However, over the past five years VTI has beaten SPY with a return of over 96% compared to a return of just under 93% for the SPY. So longer term, VTI seems to be a stronger bet, and there are a few reasons for this. One, VTI covers the entire stock market, and thus has exposures to stocks in the Dow Jones Index, S&P 500, and the Nasdaq. Therefore, when, for example, technology stocks in the Nasdaq outperform, VTI will benefit to a greater degree over the SPY. This additional exposure provides a greater chance of upside in a rising market, which is what I expect to happen. I mentioned that VTI has over 3800 stocks in its portfolio, this compares with 500 for the SPY , giving investors greater diversification. Also importantly, VTI sports a lower expense ratio than SPY, at .05% for VTI compared to .1098% for SPY . While the difference is not huge, how could one argue that paying less for greater diversification is a bad thing? With more holdings, a superior long-term return, and a cheaper cost to own, VTI seems the obvious choice. Of course, investing in VTI is not without risk. The stock market is headed in to a time period of uncertainty, as we enter uncharted territory with events such as a Greek exit from the Eurozone and an increase in interest rates from the Fed for the first time since the recession. The market could hit a period of volatility that sends stocks sharply lower. Additionally, employment figures could stall, giving employers added leverage to keep a lid on wages and, in effect, inflation. Finally, rates could rise faster than anticipated, which could send investors away from equities and into safer investments that would then offer a higher yield, which would hurt the stock market overall and take VTI lower. However, these are not scenarios I expect to occur. The U.S. economy has increased consistently, and I expect domestic growth will outweigh scares from abroad, such as Greece. Additionally, the Fed has repeatedly noted it is mindful that raising rates too fast could derail the recovery, so I do not expect them to be too aggressive, too quickly. Bottomline: The stock market been on an incredible bull run over the past few years and VTI, as it covers the entire stock market, has directly benefited. Heading in to summer, headwinds exist that could send stocks sharply lower. However, these are perfect opportunities to “buy the dip,” as the U.S. economy is proving each month, through employment and consumer spending figures, that the rebound is real and sustainable. VTI should continue to increase as rates, while set to increase, will remain low through 2016 and passive investors continue to favor cheap ETFs that offer broad exposure. VTI offers investors a cheap way to gain exposure to the entire stock market, and also a history of outperforming the S&P 500 and its flagship ETF, the SPY. Because of this, I would encourage investors to consider VTI as an investment option on each, and any, market drop we have over the next few months. Disclosure: I am/we are long VTI, SPY, DVY. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article. Scalper1 News
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