A Look At Vanguard's S&P 500 ETF

If you’re looking for a safe way to bet on a continued stock market rally while limiting downside risk, then you might want to take a look at Vanguard S&P 500 ETF (VOO).

There are two key reasons why Vanguard S&P 500 ETF is appealing. One, it’s made up of large-cap stocks. This is important because large-cap stocks are bigger ships to turn if the market goes south. Additionally, many investors and traders will rush to these names if there is a market correction. The other reason VOO is appealing is because it offers a 1.78% annual dividend yield and carries an expense ratio of just 0.05%.

VOO has been around since Sept. 7, 2010. Unlike many exchange-traded funds (ETF), it has appreciated 187.25% since its inception. It’s also up 13.91% year to date. You might be wondering what has attributed to such an impressive and consistent performance. The answer to that question is incredibly simple. Here are VOO’s largest holdings:

Apple Inc. (AAPL) 3.43%

Exxon Mobil Corp. (XOM) 2.28%

Microsoft Corp. (MSFT) 2.17%

Johnson & Johnson (JNJ) 1.71%

For a broader idea of what you’re getting when you invest (or trade) in Vanguard S&P 500 ETF, below is a breakdown of its biggest holdings by sector:

Technology 18.02%

Healthcare 14.32%

Industrials 11.02%

Consumer Cyclical 10.22%

Consumer Defensive 9.52%

(For more information on this ETF, click here.)

Everything looks good up to this point, but we’re currently living in a unique investing environment, where simple logic appears flawed and incorrect due to Federal Reserve intervention. What’s most amazing about this environment is that even many professional traders believe the current stock market rally is artificial, yet at the same time, they’re going to continue to stay on the bull side until the rally fails. This has been going on for years.

Unfortunately for those looking to make money on the bull side, the Federal Reserve can’t keep rates low forever. That said, the Federal Reserve has proven that it can keep rates low longer than anyone could have anticipated, and it’s possible for that to continue for the foreseeable future. (For more, see: End of the Fed's Bond-Buying Program: 7 Things to Know.)

Think back to the real estate boom of the mid-2000s. At that time, there was a common theory as to why real estate prices would appreciate forever. That theory: “They’re not building more land.” This meant that supply would be limited, which would increase demand. Only a few people saw the real estate crash coming, which related to loose lending practices.

Now think about today’s similar theory with U.S. stocks: “It’s the only place to put your money right now.” An added incentive for many investors is that if everyone sees U.S. equities as the only place to put their money, it will continue to drive up the prices of those equities. Do you see what’s happening here? What these investors are failing to realize is that this is becoming a crowded trade. (For more, see: Protect Your Portfolio Against Inflation and Deflation.)

Fortunately, if you’re confused as to what might happen next, then allocating some capital to the relatively safe Vanguard S&P 500 ETF isn’t a bad idea, especially considering the yield. If you’re more conservative, or if you’re concerned about the possibility of deflation and where the stock market might be headed once reality catches up to it, then you might want to consider moving the majority of your capital to cash. That might sound boring and a strategy that lacks opportunity, but that’s a common misconception. If deflation takes place and prices for goods and services decline while you’re sitting in cash, then the value of your dollars increase substantially. Therefore, it's a strategy to at least consider. (For more, see: The Upside of Deflation.)

Since it’s impossible to predict what the Federal Reserve will do next, and the impact of any decisions on markets, you might want to consider looking into Vanguard S&P 500 ETF.  However, keep in mind that low interest rates have played a major role in the recent rally. Also, if you believe deflation is around the corner, then don’t forget the value of a saved dollar. Please do your own research prior to making any investing decisions. (For more, see: S&P 500 ETFs: What Every Investor Should Know.)

Dan Moskowitz doesn't own shares of VOO.