Is Vanguard S&P 500 ETF the Best Choice for Your Portfolio?

Investors frequently ask which S&P 500 ETF offers the best value and performance potential. The Vanguard S&P 500 ETF (ticker: VOO) stands out as one of the most popular options, but determining whether it truly represents the best S&P 500 ETF for your specific needs requires a deeper examination of both its strengths and limitations. Over the past 12 months ending in mid-January, this widely-held fund delivered a solid 17% return, yet the critical question remains: what does the outlook suggest about its future performance?

Understanding the Performance Strengths

The Vanguard S&P 500 ETF has earned its reputation through impressive historical results. Over the past decade, the fund generated a cumulative return of 337%, which translates to an annualized gain of approximately 15.9%. This exceptional track record stems from three primary factors that have propelled large-cap equities higher.

First, the macroeconomic environment has been broadly supportive for equity investors. Extended periods of historically low interest rates—often hovering below 2%—have reduced corporate borrowing costs, stimulated business expansion plans, and encouraged consumer spending. These favorable conditions have expanded both company revenues and profit margins. The recent pivot by the Federal Reserve toward rate cuts and quantitative easing continues to provide tailwinds for equity valuations.

Second, the technology sector’s dominance has been transformative. The “Magnificent Seven” group of mega-cap tech companies has reshaped market composition through globally-adopted products, powerful network effects, substantial free cash flow generation, and robust earnings growth. Their influence now represents a substantial portion of the overall index, directly benefiting shareholders who hold broad market exposure through funds like Vanguard’s offering.

Third, and perhaps most underappreciated, the structural shift toward passive investing has fundamentally altered capital flows. As of late 2023, passive fund inflows for the first time exceeded active management investments. This secular trend, combined with the emergence of commission-free brokerage accounts, has democratized market access and injected significant buying power into equities.

Confronting the Valuation Reality

However, after such a compelling winning streak, prudent investors must address a sobering counterpoint: valuation metrics suggest caution. The cyclically adjusted price-to-earnings ratio (CAPE ratio)—a widely respected measure comparing current market levels to inflation-adjusted earnings over the past decade—currently stands at 40.8. This represents the highest valuation in recorded history, with the sole exception of the dot-com bubble period spanning 1999 and 2000.

This elevated valuation carries important implications for future returns. Research from Invesco demonstrates that when the CAPE ratio reaches levels around 40, as observed today, subsequent annualized S&P 500 returns over the following decade typically trend toward negative single-digit figures. Howard Marks, the renowned credit investor and founder of Oaktree Capital Management, shares this cautious perspective. He suggests that credit-based investment opportunities currently offer more attractive risk-adjusted returns and value propositions compared to equities at present valuations.

The Realistic Outlook for the Next Year

Precisely forecasting where any S&P 500 ETF will trade 12 months from now remains an exercise in futility given the countless variables affecting market sentiment. Nevertheless, a balanced perspective can guide reasonable expectations.

It would be imprudent to assume the robust 16% annualized gains of the past decade will persist uninterrupted. Simultaneously, accepting the pessimistic scenario implied by current CAPE ratios—with negative returns—seems overly bearish. History suggests a more measured approach: the S&P 500 has generated approximately 10% annualized returns over very long time horizons. Using this historically-grounded benchmark as a baseline for the coming 12 months represents a reasonable middle-ground expectation, though actual results could deviate substantially in either direction.

Determining If Vanguard’s S&P 500 ETF Deserves Your Capital

When evaluating whether the Vanguard S&P 500 ETF represents the best S&P 500 ETF for your investment objectives, several considerations emerge. The fund offers compelling advantages: exceptionally low expense ratios, massive assets under management providing excellent liquidity, and direct exposure to America’s 500 largest profitable enterprises. These qualities make it suitable for long-term buy-and-hold investors seeking broad-market exposure.

However, the current investment environment presents complexities. The valuation metrics suggest elevated entry points, and near-term returns may disappoint investors conditioned by the exceptional decade just concluded. Alternative strategies—such as the contrarian recommendations periodically highlighted by research firms like The Motley Fool Stock Advisor (which has identified individual stocks producing returns exceeding 1,100% since 2005)—might warrant consideration for those with higher risk tolerance.

Ultimately, whether the Vanguard S&P 500 ETF ranks as the best S&P 500 ETF depends entirely upon your time horizon, risk tolerance, and whether you view current market valuations as unsustainable or merely normalized. For conservative, long-term investors accepting the prospect of mid-to-low double-digit annual returns, this ETF remains a solid foundation for portfolio construction.