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The RetireMentors

Retirement advice from experts in the business

Jan. 27, 2016, 12:33 p.m. EST

Picking the best of the best Vanguard ETFs

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By Paul A. Merriman

About Paul

Paul Merriman is committed to educating people of all ages to get the most from their retirement investments. Founder of Merriman Wealth Management, a Seattle-based investment advisory firm, he is the author of numerous books on investing: "Financial Fitness Forever," "Live It Up Without Outliving Your Money," and the new "How To Invest" series, free at his website:  "How To Invest" series: "First Time Investor," "Get Smart or Get Screwed: How to Select the Best and Get the Most from Your Financial Advisor" and "101 Investment Decisions Guaranteed to Change Your Financial Future." In his retirement, Paul writes a weekly column at MarketWatch and continues his weekly podcast, Sound Investing, which was recognized by Money magazine as "the best Money Podcast in 2008". He is president of The Merriman Financial Education Foundation and all profits from the sale of his books are used to advance financial literacy. His recommendations for portfolios of Vanguard funds, Fidelity funds and ETFs, podcasts, articles and books are available at paulmerriman.com. Follow Paul on Twitter @SavvyInvestorPM.

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It's no secret among savvy investors that Vanguard has many of the best mutual funds to be found anywhere. Vanguard also has many good exchange-traded funds (ETFs), but identifying the very best ones isn't always obvious.

I'm going to let you in on how I go about finding the hidden gems on Vanguard's ETF menu, and why I recommend the ones that I do.

Once a year, I update my Vanguard recommendations — more often if there are significant changes in the menu of choices. You'll find my Vanguard ETF recommendations at the end of this article.

My starting point, naturally, is getting access to the important equity asset classes that in my opinion should be in any retirement portfolio. The secret is in fine-tuning a portfolio so you get the most of what you want with the least performance "drag" from expenses and other factors.

(By the way, I take a similar approach to finding the best ETFs at other brokerages. In a subsequent column, I'll guide you through my choices at Fidelity, Schwab and TD Ameritrade.)

Selecting the very best ETFs at Vanguard can be especially challenging because, in several very important asset classes, there are multiple choices. The sleuthing is worthwhile, however.

As I wrote last year, even a seemingly small advantage in the range of half of a percentage point can make a huge difference over a lifetime of investing.

Large caps

My recommendations start with the familiar large-cap-blend asset class accessed through the S&P 500 Index. At Vanguard, that index is well represented by the Vanguard S&P500 ETF /zigman2/quotes/201209218/composite VOO +0.15% .

It's a bit more difficult finding the best ETF to represent large-cap value stocks because Vanguard has four of them. Let's walk through the six variables that I look for and see how these four ETFs stack up.

I'm seeking low expenses, smaller average company size, deeply discounted value (measured by a portfolio's price-to-book ratio, low portfolio turnover and broad diversification (a large number of companies in the portfolio) as well as concentration in the target asset class.

One by one, here's how Vanguard's large-cap value ETFs measure up.

  • Mega Cap Value ETF /zigman2/quotes/207509774/composite MGV +0.03%  holds 160 companies, most of them household names. Expenses are low, and turnover is very low. This fund's weakness? The average company size (more than $100 billion in market capitalization) is so large that other choices are likely to do better.

  • Vanguard Value ETF /zigman2/quotes/209486178/composite VTV +0.06%  holds companies with market capitalizations averaging $73 billion, giving it what I believe is a long-term size advantage over MGV. But that comes from having 15% of its portfolio in mid-cap stocks. This ETF has the same level of expenses and about the same price-to-book ratio as MGV, so I would give VTV a small advantage. But I think investors can do better.

  • Vanguard S&P Value Index /zigman2/quotes/201497396/composite VOOV +0.0066%  has higher expenses (.15% vs. .09 for MGV and VTV), but a smaller average market capitalization ($65 billion). VOOV has a lower price-to-book ratio. The combination of smaller companies and a portfolio that's more deeply discounted to value should give VOOV an advantage over MGV and VTV.

  • Vanguard Russell 1000 Value Index /zigman2/quotes/206196793/composite VONV +0.10% . This is the on that gets my vote in this asset class. Its average company size is about $51 billion, it charges slightly lower expenses than VOOV and has a slightly lower price-to-book ratio.

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