Many investors prefer not to hold any individual stocks, and instead enjoy the instant diversification of exchange-traded funds (ETFs).
Additionally, even if you do hold individual stocks like me, ETFs are still great for added diversification. I’ve personally always used a combination of stocks and ETFs in my portfolio, because they complement each other quite well.
When people search for “best ETFs for 2020” or other such terms, a bunch of thinly-written articles by freelancers on large websites pop up at the top, and much of the advice is generic and disappointing, rather than comprehensively researched and presented.
For example, some articles focus too heavily on which funds performed the best last year, as if that tells us what investors should buy for this year, or for permanent holding in general. Other ones just list the 5 most common ETFs that everyone already knows like “SPY, QQQ, VTI, VXUS, and BND!”, whether they happen to actually be the best ETFs or not.
Let’s go a little deeper.
The Role of ETFs for Portfolio Construction
ETFs are basically mutual funds that are packaged as a security and traded on an exchange. The fund has a pool of assets and uses that money to buy shares in dozens, hundreds, or even thousands of different companies. Your share of an ETF represents a tiny portion of the fund.
Unlike closed-end funds, ETFs can easily increase or decrease their number of shares outstanding, so that the price per share and the net asset value of that share are nearly identical. The majority of them are passively-managed index funds with fairly low fees. An increasing number of them are actively-managed, or use algorithms to select stocks. And compared to most mutual funds, exchange-traded funds are usually more tax-efficient.
A portfolio can be made entirely from simple low-cost ETFs. Here are some simple ETF-only portfolios, for example.
Alternatively, you could own individual stocks within a portfolio, and then add some ETFs for diversification. My article on high dividend stocks, for example, includes a sample portfolio that uses some ETFs and CEFs to round out the diversification.
The Best ETFs for 2020 and Beyond
When thinking of the best ETFs, it helps to think of the various “slots” that a diversified portfolio has, and then understand the range of available ETFs for those slots, with various pros and cons.
- S&P 500 U.S. equities
- Small-Cap U.S. equities
- Foreign developed equities
- Emerging market equities
- Real estate investment trusts
Then, there are some niche areas that some investors may want to substitute into one of the slots:
- Precious Metals
That’s how this article will approach the topic to help you figure out what the best ETFs are for your goals.
In other words, portfolios are personal. The top ETFs for me might not be ideal for you, and vice versa. There are, however, a few characteristics that most of the good ones have.
First of all, ETFs that are worthy of holding for the long-term focus on good asset classes like stocks, bonds, REITs, or a few other areas. If you get too esoteric without knowing what you’re doing, you’re more likely to run into trouble. There are highly-leveraged ETF products based on futures and other things that nobody other than professional short-term traders should touch.
Second, good ETFs have among the lowest expense ratios for what they seek to accomplish. Don’t pay more than you need to. Keep in mind that some ETFs are commission-free on their home platform, or platforms they have a deal with. For example, Vanguard ETFs are often the best on the Vanguard platform, and Schwab and iShares ETFs are often the best on the Schwab platform.
Third, there are big liquidity (trading volume) differences for ETFs, and you need to pick one that has the right amount of liquidity for you. Some of them have lower expense ratios but lower liquidity; others have higher expense ratios but higher liquidity. Higher liquidity generally means that the bid/ask spread is lower (which saves you money when buying or selling them), and they have an active options market. The ones with lower expenses and lower liquidity are ideal for buy-and-hold investors, while the more liquid ones are ideal for investors that want to trade them more frequently or to buy or sell options that are linked to that ETF.
Fourth, if you want to hold an ETF for a long time, make sure you use a reputable provider with a sizable fund. Small, unpopular funds sometimes are discontinued.
The biggest ETF providers are BlackRock (iShares), Vanguard, State Street (SPDR), and Invesco. Other big ones include Schwab, WisdomTree, and Van Eck Associates, among others.
State Street, BlackRock, and Invesco have among the most liquid ETFs, which makes them great for traders and still pretty good for buy-and-hold investors. They also have large selections of niche ETFs. Van Eck isn’t as big as those, but it has some very liquid ETFs and niche ETFs as well.
Vanguard, Schwab, and the others generally have less-liquid ETFs, a bit cheaper, and optimized more for buy-and-hold investors rather than traders. Their selection tends to be narrow, meant for broad passive investors.
There are hundreds of good ETFs (out of the thousands that exist), but this article will emphasize a few dozen to get started with that are generally the best at what they do and cover most needs quite well.
Best ETFs for the S&P 500
There are four primary ETFs that follow the S&P 500:
- SPDR S&P 500 ETF Trust (SPY)
- iShares Core S&P 500 ETF (IVV)
- Vanguard S&P 500 ETF (VOO)
- Invesco S&P 500 Equal Weight ETF (RSP)
SPY was the first modern ETF, created in 1993, and has more assets under management than any other ETF in the world. The expense ratio is low, and it’s extremely liquid, which makes it ideal for both buy-and-holders and frequent traders.
IVV and VOO both have slightly lower expense ratios than SPY but are less liquid, so if you don’t plan on trading any options on them, they are an equal choice compared to SPY and might be better on some platforms due to commission differences.
RSP is different than the other three because it weights companies equally rather than by market capitalization. Read my article on equal weighting to understand the nuances there. (Short version: since RSP was created in 2003, it has outperformed SPY, IVV, and VOO, but with more volatility, and Wilshire data going back four decades also shows that equal weighted outperfoms.)
Best ETFs for Small-Caps
Some investors like to include small companies in their portfolio, and there are a variety of funds for that.
If you want to keep it simple, you can combine an S&P 500 ETF and a small-cap ETF into one with an “all-cap” ETF, like these two:
- Vanguard Total Stock Market ETF (VTI)
- Schwab U.S. Broad Market ETF (SCHB)
These are some of the least expensive ETFs in the world. In practice they perform similarly to S&P 500 ETFs, but a subset of their assets are invested in thousands of smaller companies. They are only moderately liquid, and are meant for buy-and-hold investors.
If you want to have a separate ETF for small-caps, these are some of the major broad ones:
- iShares Russell 2000 ETF (IWM)
- Vanguard Small-Cap ETF (VB)
- Schwab U.S. Small-Cap ETF (SCHA)
The iShares one is the extremely liquid one, ideal for both buy-and-hold and for trading. The Vanguard and Schwab ones are slightly cheaper, less liquid, and thus optimized for buy-and-holders.
There is mixed evidence at best that small-caps outperform large-caps. However, small-cap value ETFs have a better set of evidence on their side for long-term outperformance.
My favorite small-cap ETF is the SPDR S&P 600 Small Cap Value ETF (SLYV). It’s not very liquid, but it’s great for buy-and-holders who want small cap value exposure.
Best ETFs for U.S. Sectors
Some investors want to focus on specific sectors, like financials, utilities, or healthcare. Usually they are not held forever, but are instead traded for a few months or years during periods of the market cycle.
- Invesco QQQ ETF (QQQ)
- SPDR S&P 500 Select Sector ETFs (tickers vary)
- Invesco Equal Weight Sector ETFs (tickers vary)
The Invesco QQQ ETF isn’t exactly a sector, but it’s close. It’s one of the most popular ETFs in the world and represents the Nasdaq 100. It mostly consists of technology and consumer discretionary stocks, and has an emphasis on growth. It is rather inexpensive and extremely liquid.
The SPDR S&P 500 Select Sector ETFs are the most liquid ways to trade 11 individual sectors. They have been around since the 1990’s and are relatively inexpensive. Do you want to overweight some defensive sectors like utilities and consumer staples, for example? These ETFs are for you.
Invesco has their equal-weighted versions of the typical sector ETFs. The majority of them have outperformed their non-equal weighted counterparts, but not all of them.
Best ETFs for Broad International Stocks
If you want to hold all of your international equities in one fund, there are ETFs that give you global ex-U.S. exposure within a single ETF:
- Vanguard Total International Stock ETF (VXUS)
- iShares MSCI ACWI ex U.S. ETF (ACWX)
- SPDR ACWI ex U.S. ETF (CWI)
The VXUS ETF is cheap and incredibly broad, and should be the default choice in most cases. These funds aren’t very liquid and are generally meant for passive investing.
However, I don’t recommend combined all-country ETFs in most cases. The problem with multi-country ETFs is that they tend to over-allocate to large, slow-growing economies, and tend to emphasize whichever markets are most expensive, due to their international market-cap weighting.
Instead, I generally recommend splitting developed and emerging markets and rebalancing them as appropriate.
My favorite broad international ETF, and the only one I particularly like, is the Vanguard International Dividend Appreciation ETF (VIGI). It’s one of the better “growth” ETFs in my opinion. It includes developed and emerging market stocks that have increased their dividend for at least seven consecutive years, which gives many of them an inherent quality and growth factor.
Best ETFs for Developed Market Stocks
These ETFs focus on developed foreign markets, mainly in Europe and Japan:
- iShares MSCI EAFE ETF (EFA)
- iShares Core MSCI EAFE ETF (IEFA)
- Vanguard Developed Markets ETF (VEA)
- Schwab International Equity ETF (SCHF)
When you start to separate countries into categories, it gets a bit more complex. Vanguard and Schwab generally use FTSE indices, and BlackRock/iShares generally uses MSCI indices.
FTSE considers South Korea to be a developed market. MSCI considers it to be emerging.
The MSCI EAFE index is the oldest international index, and it stands for Europe, Australasia, and Far East. It focuses on developed markets in those regions, and thus excludes Canada even though it’s an international developed market, because Canada is in North America.
VEA and SCHF have both Canada and South Korea. EFA and IEFA exclude both of them.
But then iShares has two EAFE ETFs? What?
The EFA ETF is ideal for traders, and it’s extremely liquid, but a bit on the expensive side for a passive fund. The IEFA “Core” ETF, on the other hand, has a larger number of holdings within the same regions, has a lower expense ratio, and less liquidity. It’s for buy-and-holders.
iShares has a set of “Core” ETFs for various asset classes that are meant to be more like Vanguard and Schwab funds; cheaper and less liquid. They’re intended for buy-and-holders.
Best ETFs for Emerging Markets
These ETFs focus on emerging markets, meaning countries that are more developed than “frontier” or “unclassified” countries, but don’t have legal frameworks or capital markets that are quite as fully developed as advanced countries. Here are some of the big ones:
- Vanguard Emerging Markets ETF (VWO)
- iShares Emerging Markets ETF (EEM)
- iShares Core Emerging Markets ETF (IEMG)
The VWO ETF does not include South Korea, because South Korea is part of Vanguard’s developed market ETFs. The iShares emerging market ETFs do include South Korea.
EEM is extremely liquid, but more expensive, and thus ideal for traders. IEMG is cheaper and only moderately liquid, which makes it better for buy-and-holders.
Emerging markets can be kind of tricky, and if you want to emphasize certain qualities, there are some factor ETFs that can help narrow your selection. These ETFs tend to have higher expense ratios and aren’t as liquid, but can be good alternatives if you’re looking for something specific:
- Invesco FTSE RAFI Emerging Markets ETF (PXH)
- WisdomTree Emerging Markets ex-State-Owned Enterprises ETF (XSOE)
- Pacer Emerging Markets Cash Cows 100 ETF (ECOW)
The PXH ETF is fundamentally-weighted based on sales, cash flow, dividends, and book value rather than market capitalization, which gives it more of a value-tilt. This is the “RAFI” methodology developed by Research Associates. The companies in this fund are cheaper than average, and they have a big weighting towards financials. (Schwab also has a set of RAFI ETFs, including one for emerging markets.)
The XSOE ETF is an emerging markets fund that excludes state-owned enterprises, which are common in some countries. Companies that are partially owned by the government may not always act in the best interest of shareholders, for better or worse. Although it’s not explicitly meant to, due to the companies this fund excludes, it has somewhat of a growth-tilt and is underweight financials.
The ECOW ETF is one of Pacer’s series of “Cash Cow” ETFs that rank companies based on their cash flow yield. It has a strong value tilt, and all of the cash cow ETFs exclude financials completely.
Best ETFs for Dividends
These ETFs focus on various groups of companies that pay dividends in a certain way, and are generally classified as either dividend growers or high-yielders. They are fairly cheap and lower liquidity, meant for buy and hold investors.
- Vanguard Dividend Appreciation ETF (VIG)
- Vanguard International Dividend Appreciation ETF (VIGI)
- Vanguard High Dividend Yield ETF (VYM)
- Vanguard International High Dividend Yield ETF (VYMI)
- ProShares S&P 500 Dividend Aristocrats ETF (NOBL)
There are some other good ones as well, from WisdomTree and other providers.
The higher-yield ETFs tend to have a value-tilt while the dividend appreciation ETFs have 7-10 years or more of consecutive annual dividend growth, which gives them a blended quality/growth tilt.
The NOBL ETF focuses on companies with 25+ years of consecutive annual dividend increases, and is equally-weighted, which makes it a bit different than the rest of this set.
Best ETFs for Bonds
Bond ETFs allow you to include bonds in your portfolio. Most of them do not hold the bonds until maturity, which means they are subject to interest rate risk and reward. See my article on how bonds are priced for more information on bond pricing.
The main questions to ask are:
- How long do you want your bond duration to be?
- Do you want government or corporate bonds, or both?
- What credit quality do you want?
The “default” bond ETF choices, if you don’t have something specific in mind, are these:
- iShares Core U.S. Aggregate Bond ETF (AGG)
- Vanguard Total Bond Market ETF (BND)
- Schwab U.S. Aggregate Bond ETF (SCHZ)
These ETFs follow the U.S. Aggregate Bond index, which is like the S&P 500 of bonds. They consist of a mix of U.S. government and corporate bonds, but are more weighted towards government. They have a broad spectrum of maturities which average out to intermediate maturity.
If you want to nearly eliminate interest rate risk, then going with some short-term treasuries makes sense. These ETFs focus on them:
- iShares Short Treasury Bond ETF (SHV)
- Vanguard Short-Term Treasury ETF (VGSH)
If you want to take on more risk in the form of long duration or lower credit quality, there are hundreds of ETFs to pick from.
Best ETFs for Precious Metals
There are various reasons why investors might want to own precious metals as a small portion of their portfolio. Read my article on precious metal investing to understand why it can sometimes be appropriate.
The most liquid ETFs for trading gold and silver are these two:
- SPDR Gold Trust (GLD)
- iShares Silver Trust (SLV)
The GLD ETF has a relatively high expense ratio for simply holding gold. If you just want to buy and hold gold, there are some cheaper ones:
- iShares Gold Trust (IAU)
- GraniteShares Gold Trust (BAR)
They are less liquid but have lower expense ratios for investors that want to buy and hold.
Some skeptical investors have good reasons to distrust all of those ETFs. Gold is disaster protection; a hedge for chaos. These funds are not redeemable for gold, and have various legal loopholes.
If you want more security for long-term gold and silver holding, I recommend Sprott Physical Bullion Trusts. They are not technically ETFs, but they are exchange-traded trusts:
- Sprott Physical Gold & Silver Trust (CEF)
- Sprott Physical Gold Trust (PHYS)
- Sprott Physical Silver Trust (PSLV)
Their expense ratios are a few points higher than GLD, but worth it in my opinion for peace of mind and security. All of the metal is held in Canada in 100% physical allocated form and is redeemable in physical metal for large shareholders.
I also like the Aberdeen Standard Physical Swiss Gold Shares ETF (SGOL), which has a low expense ratio and uses Switzerland as its primary vault jurisdiction.
There were a lot of ETFs listed here, and it can feel overwhelming to pick the right ones.
The good news is that the low-hanging fruit is simply to pick one of the good ones described in this article for most of the major “slots”, stick them together in a portfolio, and re-balance them annually. In other words, a U.S. equity ETF, a couple international equity ETFs, maybe a bond ETF, maybe a REIT ETF, maybe a precious metal ETF, and you’re pretty set.
There are various ways to optimize a portfolio a bit from there, but at that point you already have a solid portfolio and you’re just fine-tuning around the margins.
If you’re new to investing, Vanguard and Schwab are generally the safest choices. Their funds are broad, simple, and hard to go wrong with. They’re less liquid and meant for passive investing.
The other companies like State Street, BlackRock, and Invesco have good broad ETFs as well, but also more niche products that may not be suitable for inexperienced investors. Experienced investors may want to pick among their bigger selections for more specific strategies, and traders naturally use them more.
Definitely check out these articles for further reading: