Bigger stocks aren’t always better.
Most investors tend to focus attention on large, blue-chip corporations. There are many good reasons for this, including that these well-known firms tend to have recognizable brands and important relationships to the broader economy. However, bigger isn’t always better. Many multinational corporations can be complex and difficult to understand. Furthermore, there are no guarantees that a $100 billion company is safe from severe problems — as painfully shown in the wake of the 2008 financial crisis. Smaller companies can add an important layer of diversification to your portfolio. And depending on your strategy, they can offer just as much growth potential or long-term income. If you’re interested in adding small-cap stocks to your portfolio as 2020 draws to a close, these nine exchange-traded funds are simple ways to do so.
iShares Core S&P Small-Cap ETF (ticker: IJR)
The largest small-cap focused fund on Wall Street, this ETF boasts nearly $44 billion in assets under management. It’s easy to see why, too, with a rock-bottom expense ratio of just 0.06% (or $6 annually in fees on every $10,000 invested) and a deep bench of about 600 small-cap components. Perhaps the only knock against IJR is that it’s very light on some key sectors, with the four separate industries of consumer staples, energy, utilities and communications collectively adding up to around 11% of the entire portfolio among them. But on the whole, this small-cap ETF is a simple and effective way to get exposure to smaller stocks.
Vanguard Small-Cap Value ETF (VBR)
If you want a bit more tactical of an investment in smaller companies, this Vanguard small-cap ETF screens for only those that have value-oriented characteristics. That includes metrics such as book value, historical price-earnings ratios and dividend metrics. Unsurprisingly, you get more stocks like wastewater utility Essential Utilities (WTRG) and real estate investment trusts, or REITs, such as hospital operator Medical Properties Trust (MPW) in the mix. These kinds of stocks are sleepier than growth-oriented companies, but they are also a bit more stable. VBR comes with a low expense ratio like the previous iShares fund, at 0.07%, and pays a 2.23% dividend.
Vanguard Small-Cap Growth ETF (VBK)
The flip side of value is, of course, growth — and Vanguard offers a sister fund in VBK that leans toward companies such as telehealth firm Teladoc Health (TDOC) and eclectic online merchant Etsy (ETSY), which recently joined the S&P 500. There’s more risk here, but there’s also more upside as these firms chase future growth and hope to become the next generation of stock market leaders. After all, many companies in the current crop of large-cap standouts had to start somewhere smaller, and investors who buy into VBK can potentially get in on the ground floor of the next industry leader. The fund’s expense ratio is also a low 0.07%.
Schwab Fundamental U.S. Small Company Index ETF (FNDA)
A slightly different but related fund is FNDA, a Schwab ETF that holds a massive list of more than 900 small-cap companies — all of which are selected for their strong “fundamentals” versus their peers. These metrics include sales growth, book value and profit margins. This blended strategy doesn’t strictly chase growth or value but instead prioritizes hard numbers. Think of a stock like container maker Tupperware Brands Corp. (TUP), which posted a big second-quarter profit surprise in late July and surged from less than $10 a share to more than $20 a share as a result and is currently one of FNDA’s top holdings. This is precisely the kind of small-cap stock this fund prioritizes because of proven sales and earnings.
Invesco S&P SmallCap Low Volatility ETF (XSLV)
Some investors like the appeal of small caps but remain a bit hesitant given that these companies are riskier than blue-chip stocks in the Dow Jones Industrial Average. Invesco has created the perfect product for investors like this, however, with a low volatility fund that is composed of a targeted list of about 120 small-cap stocks — such as household products maker WD-40 Co. (WDFC) — that are hand-picked for stability. Now, this doesn’t mean that XSLV can’t ever lose an investor’s money. That said, the methodology behind this ETF focuses on statistical measurements of the magnitude of price fluctuations over time. So there is a smaller chance that components will “wiggle” as much as other small caps, particularly in an uncertain market.
WisdomTree U.S. SmallCap Dividend Fund (DES)
A slightly different but related approach that may appeal to risk-averse small-cap investors is this WisdomTree ETF that places a priority on smaller stocks that are paying dividends. This is an interesting strategy, since companies have to have a decent baseline of profits to support any kind of dividend payment to shareholders, and a fairly reliable business model that won’t cause a sharp contraction prohibiting those payouts in the future. Right now, the DES fund currently yields about 3.68% thanks to holdings that include chemical company Chemours Co. (CC) and natural gas pipeline operator Antero Midstream Corp. (AM). DES comes with an expense ratio of 0.38%.
iShares MSCI EAFE Small-Cap ETF (SCZ)
One drawback to all the small-cap ETFs discussed so far is that they don’t look beyond America to find stocks that could help you profit. That’s where this iShares ETF can really be useful, with a focus on EAFE offerings — that is, stocks from Europe, Australasia and the Far East. That means a healthy dose of stocks from Japan, the U.K. and Australia to round out your portfolio with names you may never have known existed and which may not be easily accessible in your brokerage account without an ETF. With a long list of more than 2,300 holdings, this iShares offering is a great way to supplement your existing portfolio, then, without the risk of overlapping domestic holdings.
Vanguard FTSE All-World ex-US Small-Cap ETF (VSS)
Even broader is this Vanguard small-cap ETF that spans the entire world, excluding U.S.-based stocks. That way you also get exposure to markets like Canada or Brazil that are excluded from the aforementioned SCZ fund. That includes a huge range of small caps, from Toronto-based miner Kirkland Lake Gold (KL) to Swedish gambling and casino service provider Evolution Gaming Group (EVVTY). With nearly 4,000 stocks from around the globe, you get a little bit of everything in this small-cap fund — along with a 2.79% yield and fairly low expense ratio of 0.11%.
WisdomTree Emerging Markets SmallCap Dividend Fund (DGS)
A mashup from several different strategies discussed in the prior exchange-traded products, this WisdomTree fund is a sophisticated investment vehicle that is limited to small-cap stocks in emerging markets that offer significant dividends. It’s quirky, but this WisdomTree product is a unique way to balance risks of smaller stocks in international markets by relying on a substantial dividend yield of 4.52%. That’s roughly twice the yield of the S&P 500 at present. If you’re looking for income but still want to go smaller, then consider DGS as a unique tool in your toolbox. The fund has a slightly higher expense ratio than others on this list, at 0.63%.
Nine small-cap ETFs to buy:
— iShares Core S&P Small Cap ETF (IJR)
— Vanguard Small-Cap Value ETF (VBR)
— Vanguard Small-Cap Growth ETF (VBK)
— Schwab Fundamental U.S. Small Company Index ETF (FNDA)
— Invesco S&P SmallCap Low Volatility ETF (XSLV)
— WisdomTree U.S. SmallCap Dividend Fund (DES)
— iShares MSCI EAFE Small-Cap ETF (SCZ)
— Vanguard FTSE All-World ex-US Small-Cap ETF (VSS)
— WisdomTree Emerging Markets SmallCap Dividend Fund (DGS)
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Update 09/09/20: This article was published on a previous date and has been updated with new information.