For index investors, Vanguard increasingly has become the provider of choice. The company, under founder Jack Bogle, pioneered the concept back in the 1970s. Its aggressive efforts to control investor costs have made it the No. 2 provider of exchange-traded funds, behind only BlackRock, Inc. (NYSE:BLK).
But Vanguard isn’t just for passive investors. The company offers mutual funds as well. Under new CEO Tim Buckley, Vanguard is launching factor-based funds as well, a notable change in strategy. And the low-cost provider also offers sector-based ETFs, most with an expense ratio of just 0.1%.
Those sector ETFs should be of interest to active investors as well — particularly in this market. Expenses are lower than they would be if an investor chose single stocks, or even a basket of stocks. The broad market bought by index funds looks increasingly precarious, as Lawrence Meyers warned this week. Active investors looking to be more nimble should volatility rise this year can benefit from lower expenses and more narrow exposure.
Notably, for contrarians, Vanguard’s sector funds offer three intriguing opportunities. All three funds lagged the broad market in 2017, as their sectors underperformed.
But if market strength allows them to catch up, or if sector rotation brings them back into favor, they could outperform in 2018. And with Vanguard taking just one tenth of a percent in management fee, investors will be sure to benefit if that indeed is the case.
Vanguard ETFs: Vanguard Energy ETF (VDE)
Expense Ratio: 0.1%
2017 was an unusual year. U.S. equity markets rallied and the U.S. dollar weakened against a basket of currencies (as measured by the U.S. Dollar Index (DXY)). And yet energy stocks lagged. That’s an odd combination, given that energy often outperforms in bull markets and commodity prices should benefit from a weaker dollar.
In fact, the Vanguard Energy ETF (NYSEARCA:VDE) actually declined over 6% last year. But there’s reason to see that performance reversing in 2018. VDE already has rallied, gaining over 4% YTD and climbing almost 10% since mid-December.
And that run could continue. Inflation expectations are creeping up. A strong macro environment should help oil prices. Natural gas prices have bounced off a one-year low.
If broad markets rise in 2018, it seems unlikely that energy will once again underperform. (One caveat: energy has been weak for a while; this sector ETF has returned less than 1% annually over the last decade.) Investors then looking for a bit more risk — and reward — in U.S. equity markets should look to the sector, and VDE looks like an attractive play.
Vanguard ETFs: Vanguard Telecommunication Services ETF (VOX)
Expense Ratio: 0.1%
Up front, I’ll admit that I’m rather bearish on U.S. telecom stocks. I’ve argued that the intense competition among the “big four” wireless companies looks something like a circular firing squad. I remain cautious, at best, toward the two largest players, AT&T Inc. (NYSE:T) and Verizon Communications Inc. (NYSE:VZ).
As such, I’m equally cautious about the Vanguard Telecommunication Services ETF (NYSEARCA:VOX). Some 45% of the ETF’s assets are invested in those two companies. Including T-Mobile US Inc (NASDAQ:TMUS) and Sprint Corp (NYSE:S), the figure climbs over 50%.
But for investors who see the sector differently, VOX looks like a very intriguing play. Owing to its ownership of VZ and T, the ETF offers a dividend yield over 4% over the trailing 12 months. There’s some diversification away from wireless, including VoIP operator Vonage Holdings Corp. (NYSE:VG) and fiber play Cincinnati Bell Inc. (NYSE:CBB), which I own.
There’s real contrarian potential here as well, with VOX the worst performer of Vanguard’s 11 sector ETFs over the past year. Even with a generous dividend, VOX’s return has been -5.4%. But if telecom finally joins the rally this year and/or if competition in the space becomes more rational with the T-Mobile-Sprint merger now off, VOX should be a winner.
Vanguard ETFs: Vanguard REIT Index Fund (VNQ)
Expense Ratio: 0.12%
The Vanguard REIT Index Fund (NYSEARCA:VNQ) actually closed at a 52-week low on Wednesday, making it an intriguing bottom-fishing option. VNQ in particular looks attractive because of its breadth. The top holding is mall owner Simon Property Group Inc (NYSE:SPG). That’s followed by data center operator Equinix, Inc. (NASDAQ:EQIX), industrial REIT Prologis Inc (NYSE:PLD), Public Storage (NYSE:PSA), and apartment landlord AvalonBay Communities Inc (NYSE:AVB).
There are risks here, including (potentially) rising interest rates as 2018 rolls on. But VNQ, too, pays a nice dividend: 3.5% on an unadjusted basis last year, per the Vanguard website, though differing capital gains treatments impact how that yield is measured. Fees are modestly higher, but at 12 basis points they are still much lower than actively managed offerings. And — again — VNQ provides exposure to a broad swath of the real estate market, offering diversification as well.
Long-term, VNQ has been a winner, returning 8.9% since its 2004 inception. In this market, similar returns in 2018 would be welcomed.
As of this writing, Vince Martin is long shares of Cincinnati Bell, and has no positions in any other securities mentioned.