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3 Low Expense Passive U.S. Equity ETFs to Bolster Returns

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In an environment where active funds continue to suffer from heavy outflows, passive funds are attracting significant inflows. According to a recent Morningstar report, heavy inflows in passive U.S. equity funds in July helped to offset huge outflows from active counterparts. Also, all the broader passive fund categories registered inflows last month in a scenario when most of the active fund categories faced investor wrath.

Passive Funds Outperforming Active Funds

According to the Morningstar report, passively managed U.S. equity funds registered an inflow of nearly $33.81 billion in July versus an outflow of $32.93 billion from their active counterparts. July’s outflow from actively managed U.S. equity funds was preceded by a withdrawal of $21.7 billion in June. Last month’s inflow in passive funds from the category came in significantly higher than June’s inflow of $8.7 billion. The surge in inflows in passive U.S. equity funds led total inflows in this category to come in at $877 million. Meanwhile, the passive ETF – SPDR S&P 500 ETF SPY emerged as the top performer among the funds last month in terms of inflows, registering nearly $11.6 billion (read: Believe in George Soros? Short S&P 500 with These ETFs).  

The report also showed that passively managed U.S. equity funds registered a huge inflow of $163.6 billion over the 12-month period ending in July, in contrast to a massive outflow of $211 billion witnessed by actively managed funds. Moreover, taxable bond funds, which emerged as one of the few categories registering inflows among active funds categories, registered a total inflow of $34.0 billion in July with passive ones attracting the major part of it.  

What’s Driving the Performance of the Passive Funds?

While a passively managed fund or passive index fund is designed to resemble a broader market index and provide performance identical to it, funds that are actively managed seek to deliver profits higher than the industry barometer which the fund is designed to beat. This is the reason why passive funds witness less trading activity than active portfolios. In this process, active funds expose investors to the risk of human errors, while passive funds avoid this by investing across investment categories or sectors.

Moreover, active funds are expected to have higher expense ratios compared to passive funds, which is believed to be one of the major reasons behind the rising demand for passive index funds. As per Lipper, equity funds that are actively managed have an average expense ratio of 1.4%, significantly higher than 0.6% recorded by their passive counterparts (read: 5 Low-Cost ETFs Poised for Long-Term Wins).

Strong gains in the major U.S. benchmarks last month also played an important role in boosting inflows into passive funds. The S&P 500, the Dow and the Nasdaq gained 3.6%, 2.8% and 6.6%, respectively, in July. Markets rebounded from the steep losses it suffered on Brexit woes, with U.S. stocks climbing to record highs. Corporate results came in better than expected, while reassuring domestic economic data raised confidence in the strength of the economy. From homebuilding to retail sales to job creation, all showed signs of improvement (read: ETFs to Watch as Nasdaq Hits All-Time High).

3 Low Expense Passive ETFs to Buy

Given this encouraging backdrop, we have highlighted three favorably ranked passive equity ETFs that have low expense ratios. Moreover, these funds have attracted significant inflows over the past one-month period and registered healthy returns in recent times. Thus, these funds may prove to be good additions to one’s portfolio.

Vanguard REIT ETF VNQ

This fund tracks the MSCI US REIT Index. In total, it holds 150 securities in its basket with 34.6% of its assets invested in the top 10 holdings. The fund is the most popular ETF in its space with $35.4 billion AUM and a solid daily average volume of more than 3 million shares. VNQ charges only 12 bps in annual fees, significantly lower than the category average of 0.45%. Sector-wise, Retail REITs takes the top spot at 24.9% while Specialized REITs (16.1%) and Residential REITs (14.9%) hold the next two positions. It has a Zacks ETF Rank #1 (Strong Buy) with a Medium risk outlook. The fund registered an inflow of $518.2 million over the past one month and returned 8.5% over the past three-month period.

Technology Select Sector SPDR ETF (XLK - Free Report)

This fund, which manages about $12.9 billion in its asset base, is the most popular choice in the technology space. It provides exposure to a basket of 75 technology stocks by tracking the Technology Select Sector Index. The ETF has an expense ratio of 0.14% while volume is solid at nearly 9 million shares. The product is well spread out across a number of sectors with Internet software & services, software, hardware & storage, IT services, semiconductors and diversified telecom services accounting for a double-digit allocation each. It also has a Zacks ETF Rank #1 with a Medium risk outlook. The fund registered an inflow of $219.3 million over the past one month and returned 10.3% over the past three-month period (read: Should You Invest in Apple ETFs Following Buffett?).

iShares Core S&P Mid-Cap IJH

This fund tracks the S&P MidCap 400. In total, it holds a well diversified portfolio of 400 securities in its basket with only 6.2% of its assets invested in the top 10 holdings. The fund is the most popular ETF in its space with $29.7 billion AUM and a solid daily average volume of more than 1 million shares. IJH charges only 12 bps in annual fees. Sector-wise, financials takes the top spot at 26.2% while IT (17.4%) and Industrials (13.9%) hold the next two positions. It has a Zacks ETF Rank #2 (Buy) with a Medium risk outlook. The fund registered an inflow of $155.5 million over the past one month and returned 8.1% over the past three-month period.

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