Small-Cap Value For A Nominal Fee

Low fees on exchange-traded funds are one of the biggest selling points of this asset class and one of the primary reasons investors are continually ditching higher-fee, under-performing actively managed mutual funds.

Lower Fees Attract Assets

Even better for investors is that ETF issuers are consistently lowering fees in an effort to attract more assets. Vanguard, the second-largest U.S. ETF sponsor, is one of the low-cost leaders and a frequent participant in the ETF fee war. Lower fees on ETFs, including Vanguard products, has made its way to small-cap funds.

Case In Point: VBR

Just look at the Vanguard Small-Cap Value ETF VBR. VBR charges a scant 0.08 percent per year, or $8 on a $10,000 stake. That makes VBR cheaper than 94 percent of competing funds, according to Vanguard data.

VBR “targets stocks representing the cheaper and slower growing half of the U.S. small-cap market and weights them by market capitalization,” said Morningstar.

VBR holds nearly 830 stocks. Like its large-cap value ETF peers, this small-cap fund is heavily allocated to financial services stocks. That sector commands over 30 percent of VBR's weight. Industrials account for 20.7 percent of the ETF's weight with consumer services stocks at 10.5 percent being the only sector with double-digit representation in the fund.

Strategies Play Out

Small-cap value strategies typically bear fruit for long-term investors. Over the past three years, VBR is up 29.7 percent, which is ahead of the Russell 2000 Index, but behind the S&P SmallCap 600 Index. In VBR's favor is that during those three years, the Vanguard ETF has been less volatile than both of those widely followed small-cap benchmarks.

“Small-cap stocks have indeed historically compensated investors for their risks over the long term,” said Morningstar. “From its inception in December 1978 through March 2017, the Russell 2000 Value Index (which offers similar exposure to this fund) outpaced the Russell 2000 Growth Index by about 3.5 percentage points per year. This outperformance has not been consistent. During the past decade, the Russell 2000 Value Index lagged its growth counterpart by 2 percentage points annually. While they won't always come out ahead, value stocks will likely offer a modest return edge over the long term.”

For the six years ending 2016, VBR topped the Russell 2000 in four of those years. However, investors should note VBR is not the purest mid-cap ETF. The median market value of its holdings is $3.6 billion, according to issuer data, putting it on the lower end of the mid-cap spectrum.

Morningstar has a “silver” rating on VBR.