Vanguard is one of the largest investment advisors and asset managers in the world. Its size allows it to charge very low fees for financial products. The Vanguard Growth ETF (VUG -0.82%) has $235 billion in net assets and charges a 0.04% annual expense ratio -- which would be $94 million in fees paid to Vanguard. But for an individual investing $20,000 in the exchange-traded fund (ETF), that's just $8 in annual fees. It's a win-win situation for Vanguard and investors.
The ETF has gained more than 20% so far this year and a mind-numbing 135% over the last five years, and it continues to beat the S&P 500 and Nasdaq Composite. Here's why it's worth buying now.
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Simple, yet effective
Vanguard offers 86 ETFs. Some focus on stocks, while others include bonds, Treasury notes, and a variety of other products. But only two equity funds have a 0.03% expense ratio -- the Vanguard S&P 500 ETF (VOO -0.39%) and the Vanguard Total Stock Market Fund (VTI -0.34%). Just four equity funds have a 0.04% expense ratio. The Vanguard Growth ETF is one of them, and the others are the Vanguard Value ETF (VTV 0.29%), Vanguard Large-Cap ETF (VV -0.47%), and the Vanguard Mid-Cap ETF.
The greatest advantage of these ultra-low-cost funds is their simplicity. Out of these six funds, the Vanguard Growth ETF has been (by far) the best performer this year, over the last year, three years, five years, and 10 years. It has been one of the easiest, hands-off ways to beat the market. And there's reason to believe that trend could continue.
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Betting on the best ideas
Growth companies tend to be more volatile than value and income-oriented companies because their valuations are based on earnings they could produce in the future rather than what they are making now. Investors are often willing to pay up for a promising company. But if it fails to deliver and there isn't a solid foundation, the hot air evaporates and can lead to a steep sell-off.
Companies with high-quality earnings growth and a premium valuation can generate outsized gains in the stock market.
Apple, Microsoft, Nvidia, Amazon, Alphabet, and Meta Platforms all have excellent balance sheets and highly efficient business models. But they also have plenty of opportunities for deploying capital into innovate ideas. Put another way, they have the proven qualities investors look for in a blue chip business and the upside potential that can demand a premium valuation.
By comparison, there are only so many products a consumer staples company like Procter & Gamble can develop or acquire before it becomes careless. And there's only so much innovation into new detergent or toothpaste formulas before that spending could be better used elsewhere. That's why so many established companies pay dividends.
If you go through the list of S&P 500 companies, you'll find plenty of stodgy, low-growth companies with inexpensive valuations because they are losing out to competition, are poorly managed, or simply lack the opportunities needed for market-beating earnings growth. The largest growth companies combine size with opportunities. This is why many top growth companies either don't pay dividends or prefer to buy back stock instead.
Capital that is directly reinvested in the business or indirectly through buybacks creates a snowball effect, where earnings per share increase thanks to higher net income and a lower share count. If a company keeps allocating capital well and managing operations efficiently, it is practically unstoppable over the long term.
Taking the good and the bad
There are plenty of poor-performing growth stocks in the Vanguard Growth ETF. Some are in an innovation glut, while others are losing their competitive edge. Some growth stocks are popular and expensive; others are cheap and out-of-favor. The advantage of a product like the Vanguard Growth ETF is diversification into several market sectors.
The gains of new innovative companies can make up for the underperformance or losses from incumbents that get displaced. Put another way, the Vanguard Growth ETF includes a lot of losers, but also a lot of winners. And since no one knows which growth companies will outperform the market and which ones will underperform, it can be a winning strategy to cast a wide net.
In its simplest form, the Vanguard Growth ETF is a bet on the sustained growth of the U.S. economy, rather than a bet on a select number of companies doing very well.
The most effective approach could be to pair a passive strategy like a Vanguard ETF with individual stock holdings. That way, you can add extra exposure to your highest-conviction ideas without completely missing the boat on certain themes. If you didn't have exposure to megacap growth or artificial intelligence themes, it would have been very difficult to beat the market during the past 18 months or so.
Automating your investment strategy
Compounding wealth over time is just as much about developing savings habits as it is about making wise investments. It can be helpful to have some evergreen individual companies or ETFs that you can plug new savings into if you don't have a high-conviction idea.
It's especially difficult to deploy new capital when equity prices are falling all around you. In those periods, the Vanguard Growth ETF can be especially effective because it is diversified and not vulnerable to the same company-specific risks that can be amplified during a full-blown recession. For example, growth stocks got hit hard in 2022. But if you bought the Vanguard Growth ETF at the end of that year, you'd be up 74% since then.
This is yet another example of why investing and holding stocks through periods of volatility prevails over the long term.
