Actively managed funds continue to languish while low-cost index funds gobble up assets. By the end of 2016’s third quarter, outflows from pricey actively managed funds topped $200 billion, according to Bank of America data. And while full-year data for all funds isn’t available yet, Morningstar says investors took a record $19.3 billion out of BlackRock’s U.S.-based actively managed mutual funds last year.
That’s to the benefit of low-cost, passive index funds — especially exchange-traded funds (ETFs). At the end of November, assets under management for ETFs listed around the world topped a record $3.44 trillion — up from $1.3 trillion just six years ago!
Fees are one of the most pivotal drivers of the migration to passive products. The average expense ratios for U.S. equity and fixed income ETFs are 0.41% and 0.28% per year, respectively. The average fees for actively managed equity and bond funds are more than triple in both cases.
What does that mean? An investor paying 0.41% is paying $41 annually on every $10,000 they have invested. Let’s say you’re even paying double that, at 0.82%. That’s $82 annually. Doesn’t sound like a lot, sure, but consider that $10,000 invested in the cheaper fund will become $67,295 with a 7% rate of return over 30 years. The more expensive fund will come in at $59,462 — so that’s nearly $8,000 lost to fees and opportunity cost!
Investors looking to make broad bets on various parts of the market can do so for a song thanks to cheap indexing. Today, then, we’ll look at some of the best low-cost index funds to buy now.
Best Low-Cost Index Funds to Buy Now: Vanguard Total Stock Market ETF (VTI)
Type: Total stock market
Expenses: 0.05% per year, or $5 annually on every $10,000 invested
We’re looking at the ETF version of this index fund, but Vanguard Total Stock Market ETF (NYSEARCA:VTI) is also available in two different mutual fund classes for the investors that prefers a more pure index fund.
VTI features an extremely deep roster of more than 3,600 stocks that helps mitigate single-stock risk. Top 10 holdings including Apple Inc. (NASDAQ:AAPL), Alphabet Inc (NASDAQ:GOOGL) and Microsoft Corporation (NASDAQ:MSFT) make up just 15% of the fund’s weight.
Regardless of the version of VTI an investor chooses, they are getting one of the least expensive index funds on the market. With an annual fee of just 0.05%, VTI is cheaper than 95% of competing funds, according to Vanguard data.
Best Low-Cost Index Funds to Buy: Schwab U.S. Equity Dividend ETF (SCHD)
Type: Dividend equity
Dividend-focused index funds are often a hair more expensive than their traditional broad-market counterparts, but you hardly have to break the bank to focus on equity income. In fact, the fees on a number of large dividend ETFs have been on the decline.
Schwab U.S. Equity Dividend ETF (NYSEARCA:SCHD) is the least expensive U.S. dividend stock ETF on the market. Fees typically make a difference, but it’s particularly true with funds like SCHD, which make their gains more slowly while being held of the course of several years or even decades.
SCHD invests in just 108 stocks, with a lot of weight thrown into top holdings such as Verizon Communications Inc. (NYSE:VZ), Pfizer Inc. (NYSE:PFE) and Johnson & Johnson (NYSE:JNJ), which are each weighted at just less than 5%.
The ETF throws off a yield of about 2.6%.
Best Low-Cost Index Funds to Buy: Schwab U.S. Large-Cap Value ETF (SCHV)
Type: Large-cap value equity
You’ve surely come across the term “smart beta” within the past couple of years, but it’s really just a fancy name for when a fund provider invests in strategies outside of your run-of-the-mill market-cap weighted index.
That can be as simple as, say, focusing on large-cap value stocks — the theme of the Schwab U.S. Large-Cap Value ETF (NYSEARCA:SCHV).
SCHV is the cheapest way to invest in large-cap value, coming in 3 basis points below its Vanguard competition. The fund is unsurprisingly conservative and blue-chip in nature, with MSFT, Exxon Mobil Corporation (NYSE:XOM) and JNJ getting top weights among the ETF’s 385 stocks.
Best Low-Cost Index Funds to Buy: iShares Core S&P Mid-Cap ETF (IJH)
Type: Mid-cap equity
Of course, there are stocks outside of domestic large caps.
The iShares Core S&P Mid-Cap ETF (NYSEARCA:IJH) invests in mid-cap stocks — typically defined as stocks between $2 billion and $10 billion in market capitalization.
They’re often referred to as the market’s “sweet spot” because they have better growth potential than their larger brethren, but better financial stability and access to capital than small-cap stocks.
Index funds typically are much less expensive for mid-cap stocks than their actively managed counterparts. Perhaps more important is the fact that actively managed mid-cap funds have, broadly speaking, poor track records of beating their benchmarks.
Best Low-Cost Index Funds to Buy: iShares Core S&P Small-Cap ETF (IJR)
Type: Small-cap equity
The iShares Core S&P Small-Cap ETF (NYSEARCA:IJR) is one of the best small-cap index funds for reasons extending beyond its low fee. Notably, IJR tracks the S&P SmallCap 600 Index, which has a lengthy history of outperforming the rival Russell 2000 Index.
IJR is an extremely balanced fund in which no single holding makes up more than 0.6% in weight at the moment. Top holdings right now include Take Two Interactive Software, Inc. (NASDAQ:TTWO) and PDC Energy Inc (NASDAQ:PDCE).
This low-cost index fund is part of the iShares core suite of ETFs aimed at cost-conscious, long-term investors. Earlier this year, the fund provider lowered fees on a broad swath of the core lineup.
As a note: IJR will be split 2-for-1 in January.
Best Low-Cost Index Funds to Buy: Schwab International Equity ETF (SCHF)
Type: International equity
Investors typically pay a bit more to invest in international stock funds than they do domestic stock funds — even if you’re talking developed markets.
However, Schwab made adding international exposure extremely affordable with the Schwab International Equity ETF (NYSEARCA:SCHF).
Not only does SCHF charge a skinflint 0.07% in fees, but Schwab clients can realize additional savings by trading SCHF on the company’s commission-free ETF platform.
SCHF is a who’s who of blue-chip international equity, holding stocks such as Nestle SA (ADR) (OTCMKTS:NSRGY), Novartis AG (ADR) (NYSE:NVS) and Toyota Motor Corp (ADR) (NYSE:TM). It’s most heavily weighted in Japanese stocks (22%), though it also has a double-digit weighting in U.K. equity (16%).
Best Low-Cost Index Funds to Buy: Vanguard FTSE Developed Markets ETF (VEA)
Type: Developed-market equity
Developed-market index funds are generally affordable, though again, they’re going to be a bit pricier than their domestic-stock equivalents.
That’s still the case with the Vanguard FTSE Developed Markets ETF (NYSEARCA:VEA), but you’re hardly paying through the nose.
VEA, which holds more than 3,800 stocks, is mostly split between European (52%) and Pacific-area (38%) stocks. North America’s 9% is all invested in Canada. Top countries, though, like SCHF, are Japan (23%) and the U.K. (16%).
This ETF also is available in index fund form in two different Vanguard share classes.
Best Low-Cost Index Funds to Buy: iShares Core MSCI Emerging Markets ETF (IEMG)
Type: Emerging-market equity
Another area where actively managed funds can get expensive is emerging markets, which makes the low fee on the iShares Core MSCI Emerging Markets ETF (NYSEARCA:IEMG) all that much more attractive.
IEMG is one of the best index funds for investors seeking emerging markets exposure due in part to robust liquidity and the familiarity of this index fund, which tracks a replica of the widely followed MSCI Emerging Markets Index.
Almost a quarter of IEMG’s assets are invested in Chinese stocks, with South Korea (15%) and Taiwan (13%) also garnering double-digit exposure.
An advantage of using an ETF like IEMG to trade emerging-market stocks is that if EMs go haywire on any particular day, traders can exploit the intraday liquidity.
Best Low-Cost Index Funds to Buy: Vanguard Intermediate-Term Corporate Bond ETF (VCIT)
Type: Intermediate-term corporate bond
Index funds have made corporate bonds more accessible easier to tap for everyday investors. One of the best index funds for investing in corporate debt is the Vanguard Intermediate-Term Corporate Bond ETF (NASDAQ:VCIT).
This fund invests in investment-grade corporate bonds, which typically yield more than similar-duration Treasuries due to the increased risk. Moreover, VCIT invests in intermediate-duration bonds, which also provide more yield than debt with a shorter maturity.
The result is a pretty good yield of 3.5%, generated by more than 1,800 holdings with an average duration of 6.5 years.
Here, we’re examining the ETF version of the fund, but Vanguard also offers this in mutual fund form, with Admiral Shares available.
Best Low-Cost Index Funds to Buy: Schwab U.S. TIPS ETF (SCHP)
Type: Treasury Inflation-Protected Securities
Treasury Inflation-Protected Securities (TIPS) usually sport hardly noticeable yields, but as their name implies, they are useful for guarding a portfolio against the potentially erosive effects of inflation.
Index funds make sense for investors looking for some inflation protection without having to invest in individual bond issues.
It’s hard to find more cost-effective choices than the Schwab U.S. TIPS ETF (NYSEARCA:SCHP), which holds TIPS across various maturities.
As of this writing, Todd Shriber did not hold a position in any of the aforementioned securities.