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Before You Buy the Vanguard S&P 500 ETF, There's 1 Sneaky Risk Investors Should Know
Key Points
The Vanguard S&P 500 ETF has generated a total return of 323% in the past decade.
Strong performance has been driven by the rising dominance of tech stocks.
Looking ahead, investors in this ETF are making a bullish bet on the prospects of AI.
With $1.7 trillion in total assets, the Vanguard S&P 500 ETF (NYSEMKT: VOO) is one of the most popular exchange-traded funds (ETFs) available to investors. Since it tracks the benchmark index, the S&P 500, which is viewed as the best way to gauge the U.S. stock market, it makes sense why the ETF is prominent. The low expense ratio of 0.03% also helps drive investor interest.
In the past decade, the Vanguard S&P 500 ETF has generated a total return of 323% (as of Oct. 21). This would've grown a starting $1,000 investment into $4,230 today, a gain that's significantly better than the historical average.
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You might think that it's time to buy this ETF right now. Before making a move, investors should understand one sneaky risk.
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One sector stands above the rest
Owning 500 or so large, profitable American businesses seems like an easy way to diversify your holdings without hassle. There's intense concentration, though. Stocks in the Vanguard S&P 500 ETF are weighted by their market capitalizations. Company size dictates the extent of its influence on the portfolio's performance.
A heavy tilt toward technology stocks is what investors need to be mindful of. This single sector accounts for 39.7% of the ETF's total asset base. The second- and third-biggest sectors, financials and communication services, combine to make up a significantly lower 21.3% share.
The risk profile might be different from what investors initially thought. The technology sector's huge weight means that its performance, for better or worse, ripples through the ETF. Over the last 10 years, this has worked out quite well. A rough stretch, however, can be a major drag on the portfolio.
AI is the key theme driving the market
To double-click on the point of tech concentration, investors who buy the Vanguard S&P 500 ETF are making a bullish bet on the future of artificial intelligence (AI). Some of the fund's top positions include Nvidia, Microsoft, Alphabet, Amazon, and Meta Platforms. Together, they account for 25.8% of the portfolio.
Applauded in the past for their ability to generate robust free cash flow, these businesses are now allocating incredible amounts of capital to the AI data center build-out. Among hyperscalers, that spending is expected to exceed $1 trillion in 2027. The long-term payout is completely unknown, and the AI trade presents heightened financial risk.
The Vanguard S&P 500 ETF is undoubtedly an effective way to gain exposure to the stock market. Investors just need to know exactly what they're buying.
Neil Patel has positions in Vanguard S&P 500 ETF. The Motley Fool has positions in and recommends Alphabet, Amazon, Meta Platforms, Microsoft, Nvidia, and Vanguard S&P 500 ETF. The Motley Fool has a disclosure policy.