Investing in the Total Stock Market with ETFs

Investment case

The case for investing in the total stock market is based on the idea that, over the long run, investors can't beat the market.

A good explanation comes from the large money management firm Dimensional Fund Advisors:

Markets throughout the world have a history of rewarding investors for the capital they supply.

Companies compete with each other for investment capital, and millions of investors compete with each other to find the most attractive returns.

This competition quickly drives prices to fair value, ensuring that no investor can expect greater returns without bearing greater risk.

To illustrate the point, DFA provides the chart below which shows the long term total market performance for stocks, bonds and bills relative to inflation.

Starting with $1 in 1926, inflation (CPI) grew to $12 in 2007 while an investment in U.S. Government treasury bills would have grown to $20.  An investment in U.S. Government bonds would have done better, growing to $80.

However, stock performance surpassed inflation and fixed income investments by a wide margin over the same time period.  $1 invested in a large-cap stock index would have grown to $3,251 and the same $1 in a small-cap stock index would be worth $15,534.

Click to enlarge

Overview

ETFs offer several ways to invest in the Total Market.  Choices include all US, total index, total single market and all World.

All US ETFs

The largest and lowest cost all-US stocks ETF is the Vanguard Total Stock Market ETF (VTI). At $9.8 billion and a very low expense ratio of 0.07%, it is the most popular choice for total market investors.  Although the index represents 99.5% or more of the total market capitalization of all of the U.S. common stocks, the fund typically holds the largest 1,200–1,300 stocks and a representative sample of the remaining stocks.

Other options include the iShares' Dow Jones U.S. Index Fund (IYY) which tracks a capitalization-weighted index designed to represent 95% of the U.S. market. State Street's SPDR DJ Wilshire Total Market ETF (TMW) tracks the Dow Jones Wilshire 5000(SM). The index is market capitalization weighted and includes all US-headquartered companies with readily available price data.

Total Index ETFs

Several indicies and their respective ETFs cover the majority of the US stock markets.  The $2.9 billion Russell 3000 Index Fund (IWV) tracks the 3,000 largest stocks in the U.S.  The S&P 1500 ETF (ISI) combines the S&P 500, MidCap 400, and SmallCap 600 Indicies, which together represent approximately 90% of the total U.S. equity market. Its smaller cousin, the popular S&P 500 Index, is tracked by two ETFs - IVV and SPY.

Single Market ETFs

The NYSE Composite Index Fund (NYC) tracks an index that measures the performance of all common stocks, American Depository Receipts ("ADRs"), real estate investment trusts ("REITs") and tracking stocks listed on the NYSE. Fidelity's Nasdaq Composite Index Tracking Stock Fund (ONEQ) is an ETF that tracks the Nasdaq Composite Index.

All World ETFs

iShares MSCI ACWI Index Fund (ACWI) tracks all stocks in the world, including the U.S.  Vanguard recently launched a similar offering, the Vanguard Total World Stock Index ETF (VT).

Top Performers

Largest Total US

Vanguard Total Stock Market ETF (VTI) - $9.8 billion

Largest Total Index

Russell 3000 Index Fund (IWV) - $2.9 billion

Largest Single Market

Fidelity Nasdaq Composite Index Tracking Stock Fund (ONEQ) - $191 million

Largest Total World

MSCI ACWI Index Fund (ACWI) - $53 million