If you could invest directly in a U.S. equity-related index and were given just one choice, what would it be? Some might answer the S&P 500. Others might choose the Dow Jones US Total Stock Market Index. The former has 500 stocks; the latter 3,740.
Both are excellent choices, but it might be worth considering something in between.
While the Dow Jones US Total Stock Market Index represents 99% of the U.S. market, the Russell 1000 comes pretty darn close. According to Russell Investments:
“The Russell 1000 Index measures the performance of the large-cap segment of the U.S. equity universe. It is a subset of the Russell 3000 Index and includes approximately 1000 of the largest securities based on a combination of their market cap and current index membership. The Russell 1000 represents approximately 92% of the U.S. market.”
Sacrificing just 8% of the market, you’re mostly giving up ownership in smaller companies, which wouldn’t be of interest to anyone who also had considered the S&P 500. The Russell 1000 is attractive to investors because it adds approximately 500 decent-sized companies to the equity mix above and beyond the S&P 500 without the overkill of the Dow Jones US Total Stock Market index.
In terms of performance, the Dow Jones US Total Stock Market Index has performed the best during a 10-year period, at an annual return of 4.51%. But most investors are aware that past performance doesn’t predict future returns.
Of course, investors can’t even own the actual indices themselves, so exchange-traded funds are the next best alternative. Here’s three funds that tap the Russell 1000:
The cap-weighted Vanguard Russell 1000 Index ETF (NASDAQ:VONE) has a very short history, having been created in September 2010. Its one-year total return is 3.99%, 16 basis points less than the index itself. Like most Vanguard ETFs, it’s very tax-efficient, losing only 25 basis points in total return after distributions. With an expense ratio of just 0.12%, you pay just $306 in fees on a $10,000 investment over a 10-year period. It’s going to be tough for any other fund to compete.
The iShares Russell 1000 Index Fund (NYSE:IWB) is a cap-weighted fund that comes with an expense ratio of 0.15%, almost identical to the Vanguard fund. In terms of market price, the iShares fund has a one-year total return of 3.98%, a virtual tie with the Vanguard fund. Interestingly, the Vanguard fund has 20% turnover compared to 7% for the iShares fund, which would suggest that the slightly lower expense ratio at Vanguard balances out the higher transaction costs. On a net asset value basis, the VONE’s one-year return is 4.47%, 47 basis points higher than the IWB. In a nutshell, the Vanguard ETF’s share price lagged the growth in its net asset value, while the iShares ETF’s price and net asset value kept pace with each other.
The final fund is the Rydex Russell 1000 Equal Weight ETF (NYSE:EWRI), which takes the Russell 1000 stocks and rebalances them on a quarterly basis so they are all equally weighted. The theory is that an equal-weighted ETF will perform better than a cap-weighted one because it allows profits to be taken and reinvested in those companies not doing as well. Unfortunately, the fund’s expense ratio is 0.4% — much higher than the cap-weighted funds. However, its one-year return is 5.55%, which is 157 basis points higher than VONE or IWB. In my opinion, it’s a very real alternative.
Although I’m a big fan of equal-weighted funds, I’d like to see a longer performance record before endorsing the Rydex Russell 1000 Equal Weight ETF. Therefore, based on information from Morningstar regarding the tax-adjusted one-year returns for both cap-weighted ETFs, I’m recommending the Vanguard Russell 1000 Index ETF at 3.56%, which is slightly higher than the iShares Russell 1000 Index Fund at 3.4%.
As of this writing, Will Ashworth did not hold a position in any of the aforementioned securities.