The Vanguard Total Stock Market ETF (NYSEARCA:VTI) tracks the CRSP U.S. Total Market Index while the SPDR S&P 500 ETF (NYSEARCA:SPY) tracks the S&P 500 index. Since the start of this year these two ETFs are nearly perfectly correlated but the average relative performance is in favor of VTI. In my opinion, the higher risk from a broad market exposure in VTI is not reflected in the relative gain with respect to SPY.
Below is a chart of VTI and SPY and of their relative performance:
The top pane shows a daily chart of VTI and the second pane a daily chart of SPY. The two charts appear indistinguishable. The third pane down shows the relative performance of the two ETFs and the fourth and last pane is a chart of the hypothetical spread of buying VTI and shorting SPY for equally allocated amounts. It may be seen that this spread has varied from -0.13% to a maximum of 1.0% since the start of this year. The value of this spread is currently near 0.09%. If we translate this to an investment of a million dollars it means that an investor in VTI would be about $900 richer than an investor in SPY since the start of this year.
The chart below is identical to the above chart with the exception that VTI and SPY prices have been adjusted for dividend payments:
It may be seen from the above daily chart that the spread long VTI - short SPY behaves about the same after the prices of the two ETFs are adjusted for dividend payments, as expected. From both charts it is evident that there is a decrease in the spread in favor of SPY after March of this year to levels that do not justify the increased risk from a broader market exposure in VTI.
Recall that the expense ratio for VTI is 0.05% and that of SPY is 0.09% (Source). Thus, part of the over-performance of VTI can be explained by the lower expense ratio. However, the over-performance has dropped to levels that do not justify the increased risk mainly due to the difference in dividend payments received during March. Actually, the dividend SPY paid was nearly double that of VTI and that contributed to the closing of the spread, which still remains in favor of VTI but, in my opinion, at low levels to justify the increased risk from the broader market exposure.
Finally, the correlation between the two ETFs is almost perfect as shown on the chart below:
The 120-day correlation is shown at the bottom pane of the above chart and it is currently at +0.995. Statistically speaking, the two ETFs are indistinguishable. From a risk-reward perspective VTI should over-perform SPY but due to recent market conditions and the flight to high cap stocks the expectations have not been met.
(1) The broad market rallies. In this case VTI will over-perform SPY even more and justify the increased risk.
(2) The market corrects. In this case VTI may fall faster than SPY because of the higher historical volatility of the broader market.
The choice between these two excellent ETF investment vehicles should not be made solely based on expense ratio but also based on potential losses from a possible market reversal. Risk management and capital preservation should be of higher importance than speculative gains. Occasionally it pays sacrificing short-term gains for realizing much smaller losses in the future. Investors in these products should consult a licensed market professional for advice tailored to their specific risk profiles.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article. Charts created with AmiBroker – advanced charting and technical analysis software.