Vanguard S&P 500 ETF: August 2024 update

• Vanguard is a pioneer in index investing and launched its first ETF in 2001

• This ETF provides exposure to some of the largest companies in the US

• It’s a low-cost way to track the performance of the S&P 500 index

How it fits in a portfolio

An ETF is a basket of investments that often includes company shares or bonds. They tend to track the performance of an index such as the S&P 500 index and trade on stock exchanges, like shares. This means their price fluctuates throughout the day.

The Vanguard S&P 500 ETF offers a low-cost solution for tracking the performance of the S&P 500 index. The index is widely regarded as the best measure of the performance of large US companies and features household names like Microsoft, Apple and Amazon.

An ETF is one of the simplest ways to invest and can be a low-cost starting point for an investment portfolio aiming to deliver long-term growth. ETFs that focus on larger US companies could be used to diversify a long-term global investment portfolio, including those focused on other regions such as the UK, Europe or emerging markets, or one focused on smaller companies.

Manager

Vanguard is a pioneer when it comes to passive investing, having created the first retail index fund over 45 years ago. It now runs some of the largest index funds in the world. Given its size, it has a big investment team with the expertise and resources to track indices and markets as closely as possible, while having scale to keep costs down.

Vanguard ETFs are run by a large, global team. They’re spread across three investment hubs around the world – the US, UK and Australia. This team-based approach means there’s no named manager on the ETF. As a collective team, Vanguard has run this ETF for over 12 years.

Vanguard also has a trading analytics team, which is responsible for ensuring the ETFs buy and sell investments efficiently and at a competitive cost. This involves analysing data from different brokers and banks. Lower costs should help the ETFs track their benchmarks as tightly as possible.

Process

The Vanguard S&P 500 ETF aims to track the performance of some of the largest companies in the US, as measured by the S&P 500 index. It does this by investing in every company, and in line with each company’s index weight. This is known as full replication and can help the ETF track the index very closely.

The ETF currently has a large weighting in companies in the technology sector which accounts for 32.4% of its assets. This is followed by financials, healthcare and the consumer discretionary sector, which make up 12.4%, 11.7% and 10.0% of the ETF respectively.

Reducing costs is a key part of keeping the tracking difference between the ETF and the benchmark to a minimum. In any ETF, factors like taxes, dealing commissions and spreads, and the cost of running the ETF all drag on performance. To help keep these costs down, the team aims to make large investments in companies instead of lots of small transactions.

Vanguard will also lend some of the investments in the ETF to other providers in exchange for a fee, which can be used to offset some of the costs. They will only lend securities to a limited number of high-quality approved dealers. They indemnify the fund against any loss from this process, meaning there should be no negative impact on investors. However, stock lending is a higher risk approach.

As this ETF is listed offshore investors are not usually entitled to compensation from the UK Financial Services Compensation Scheme.

Culture

Vanguard is currently the second largest asset manager in the world and runs around $8.6trn of assets globally as of March 2024. The group aims to put the client at the forefront of everything it does, which drives its focus on quality, low-cost index products.

John Bogle, known as Jack, founded Vanguard in 1975 and it’s owned by investors. This allows Vanguard to redirect its profits back to investors in the form of lower fees, instead of paying dividends to external shareholders. Bogle believed in creating products that simply track the performance of a market rather than taking a shot at picking individual companies which may beat them.

The team running this ETF works closely with other equity research and risk departments across the business. They have daily and weekly meetings to discuss ongoing strategy which could add good support and challenge on how to run the ETF effectively.

ESG Integration

Vanguard is predominantly a passive fund house. While it has offered exclusions-based passive funds for many years, it has lagged peers in offering passive funds that explicitly integrate Environmental, Social and Governance (ESG) criteria by tracking indices that tilt towards companies with positive ESG characteristics, and away from those that don’t.

Vanguard’s Investment Stewardship team carries out most of the firm’s voting and engagement activity. Their stewardship activity is grounded in the firm’s four principles of good governance: board composition and effectiveness, oversight of strategy and risk, executive compensation and shareholder rights. The Stewardship team produces frequent insights on their engagement activity at both a corporate and governmental level.

Vanguard courted controversy in 2022 when it left the Net Zero Asset Managers’ Initiative, a group of asset managers that have committed to achieving net zero carbon emissions by 2050. It claimed its decision would improve clarity for investors and allow it to speak independently. We view this as a disappointing backward step, but we’re encouraged that they will continue to engage with companies on climate-related issues.

The Vanguard S&P 500 ETF tracks an index that doesn’t specifically integrate ESG considerations into its process. The ETF can therefore invest in shares issued by companies in any sector.

Cost

The ETF currently has an ongoing annual fund charge of 0.07%. Ensuring an ETF has a low charge is an important part of tracking the underlying index closely.

The annual charge to hold ETFs in the HL ISA or SIPP is 0.45% (capped at £45 p.a. in the ISA and £200 in the SIPP). There are no charges from HL to hold ETFs within the HL Fund and Share Account or HL Junior ISA. As ETFs trade like shares, both a buy and sell instruction will be subject to the HL share dealing charges.

Performance

Since launch in May 2012, the ETF has tracked the S&P 500 index tightly, gaining 523.21%*. As expected, the ETF has fallen behind the benchmark over the long term because of the costs involved. However, the tools used by the managers have helped keep performance close to the index.

This performance is partially down to the inclusion of technology companies in the index whose share prices have seen a rally in recent years. Remember, past performance isn’t a guide to the future.

Over the past 12 months, the ETF has tracked the index well, returning 22.01%. In 2023, giant US technology companies known as the ‘Magnificent Seven’ – Google parent Alphabet, Amazon, Apple, Meta (previously Facebook), Microsoft, Nvidia and Tesla – dominated market returns due to the significant advancements in Artificial Intelligence (AI).

AI has remained a key theme in 2024 but the performance of the ‘Magnificent Seven’ companies has been more mixed compared to 2023. Nvidia, the world’s most valuable computer chipmaker, has seen its shares rise very strongly in the first half of 2024, driven by huge demand for its products that power AI applications. Whereas, Tesla, an electric vehicle automaker, has struggled due to a decline in customer demand. This has forced the company to lower prices to boost sales, which has cut into its profit margins.

The US Federal Reserve (Fed) have kept interest rates steady since raising rates to a 23 year high in July 2023 but are moving closer to cutting rates as inflation continues to fall. Growth companies, like those in the technology sector, are sensitive to interest rate movements and have performed well with the expectation of rate cuts, despite the uncertainty of timing.

Given Vanguard’s size, experience and expertise, we expect the ETF to continue to track the benchmark well in the future, though there are no guarantees.