Is Having a Position in the Entire Stock Market a Better Option Than Investing in the S&P 500?

Key Points

• The S&P 500 has been performing exceptionally well in recent years, hitting new records along the way.

• The index features the leading companies and thus can be an indicator of the strength of the overall market.

• Its exposure to highly valued tech stocks, however, could make it vulnerable to a correction in the future.

• 10 stocks we like better than SPDR S&P 500 ETF Trust ›

The S&P 500 has traditionally been a sound way for investors to grow their wealth, but there's no denying that its valuation has become bloated. It recently topped 6,600 as of the end of Monday's close, marking its latest record. The growth has been strong, even despite economic uncertainty this year.

But a lot depends on how well the growth prospects for artificial intelligence (AI) continue to be, as companies such as Nvidia, Microsoft, Apple, and other tech giants make up sizable positions in the S&P 500 and have been thriving due to enhanced opportunities as a result of AI. For some investors, that can make investing in the S&P 500 a less-than-ideal situation given this heavy exposure.

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An alternative option may be trying to track not simply the S&P 500 but the broader stock market as a whole, giving investors a more diversified investment. The Vanguard Total Stock Market Index Fund (NYSEMKT: VTI) attempts to accomplish this. Could it be a better investment moving forward than simply mirroring the S&P 500 through an exchange-traded fund (ETF) such as the SPDR S&P 500 ETF (NYSEMKT: SPY)?

Image source: Getty Images.

Historically, the returns haven't been all that different

Over the past five years, when including reinvested dividends, the total returns of the SPDR S&P 500 ETF have been 109% (as of Sept. 15). By comparison, investing in the Vanguard fund has yielded a total return of 103%. To put that in terms of dollars, a $10,000 investment would have grown to approximately $20,900 by tracking the S&P 500 and to $20,300 if you'd invested in the Vanguard fund.

In theory, it shouldn't be a surprising conclusion given that the S&P 500, which tracks the leading 500 companies on U.S. markets, will be a good indicator of how the overall market is doing. If the index is performing well, other stocks are likely to follow. But by investing in the best stocks, it's likely to do better amid favorable market conditions.

However, what if that isn't the case, and you're worried about high-priced stocks that could weigh on the S&P 500 and limit its returns in the near future?

Is tracking the S&P 500 still the better option if you're bracing for a slowdown in the market?

The last prolonged crash in the market took place back in 2022. At the time, inflation was getting out of control and companies that had scaled too aggressively due to strong pandemic-fueled demand realized they needed to cut back, and job cuts followed. That year, the S&P 500 tanked and the SPDR ETF's total returns were -18.2%. But the Vanguard Total Stock Market Index Fund didn't fare any better. In fact, its total returns were -19.5%.

The Vanguard fund has a position in more than 3,500 stocks, which is far more than the 500 that the SPDR ETF tracks. But due to the significant market caps of leading tech companies, they are still going to be the driving force in how both ETFs perform. The top three stocks in the Total Stock Market ETF are Nvidia, Microsoft, and Apple. Together, they combine for 18.1% of its entire portfolio. By comparison, those three stocks, which are also the largest holding in the SPDR ETF, combine for 20.8% of its portfolio.

While there is a bit less exposure to those stocks in the Vanguard fund, it's not a drastic difference. The Total Stock Market fund has a position in a lot of stocks, but the vast majority are incredibly small. After the first 200 stocks, you're looking at stocks that account for less than 0.1% of its entire portfolio. And the 500th largest position in the ETF accounts for just 0.02%.

While it may be tempting to assume that with an ETF that tracks the entire stock market you're going to get a safer and more diversified investment than the S&P 500, that's not necessarily the case.

How can investors reduce their risk in the market?

The S&P 500 index is a gauge for how the overall market is doing, and thus, trying to simply track more stocks such as through the Vanguard Total Stock Market ETF may not be a better option, or even a safer one.

If your goal is to minimize your exposure to tech stocks and have a safer mix of stocks than what the SPDR S&P 500 ETF offers, you may want to consider ETFs with specific goals in mind. The Vanguard Value Index Fund focuses on value stocks, and the Invesco S&P 500 Revenue ETF tracks the S&P 500 but weighs the stocks based on revenue rather than market capitalization. These are just a couple of examples of the ways you can potentially reduce your portfolio's risk if you're concerned about high valuations.

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David Jagielski has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Apple, Microsoft, Nvidia, Vanguard Index Funds-Vanguard Value ETF, and Vanguard Total Stock Market ETF. The Motley Fool recommends the following options: long January 2026 $395 calls on Microsoft and short January 2026 $405 calls on Microsoft. The Motley Fool has a disclosure policy.