Vanguard's Largest Growth Fund Just Hit a 52-Week High. Is There More Room to Run?

The Vanguard Growth ETF (VUG 1.82%) hit a new 52-week high on Nov. 20. The fund is now up 39.6% year to date (YTD), which is outperforming the Nasdaq Composite's 35.7% YTD gain and trouncing the S&P 500's 18.2% gain.

Here's why the ETF may be right (or wrong) for you, and why it could have more room to run.

Image source: Getty Images.

A primer on the Vanguard Growth ETF

With $170.7 billion in net assets, the Vanguard Growth ETF is one of the largest exchange-traded funds (ETFs) out there, and for good reason. It sports just a 0.04% expense ratio, meaning $10,000 invested in the fund incurs a mere $4 annual fee.

Folks who have been in the market for a while may remember a time when it cost $5 or even $10 to make a trade on an individual stock through most brokerage firms. Needless to say, the modern age of ultra-low-cost investing is here. And it has great benefits for investors.

The ETF has 221 holdings and targets investment in large-cap growth stocks. Apple, Microsoft, Nvidia, and Amazon are top holdings. But the term "large-cap growth" is fairly lenient, as Costco, Home Depot, and McDonald's are all top-20 holdings in the fund.

At its core, the fund is basically taking the S&P 500 and excluding many companies that allocate a lot of their excess earnings toward dividend payments. So it's not surprising that the fund sports just a 0.6% dividend yield, far lower than the 1.6% of the S&P 500.

Perhaps the simplest way of differentiating the fund from the S&P 500 is by looking at its holdings by sector compared to the Vanguard S&P 500 ETF. It's worth mentioning that the communications sector includes "tech stocks" like Alphabet and Amazon and Meta Platforms, while consumer discretionary includes other "tech stocks" like Tesla and Amazon. So the real weighting of technology is far higher than what is technically in the technology sector.

Data Source: Vanguard.

The biggest differences between the Vanguard Growth ETF relative to the S&P 500 is that the ETF overweights technology, communications, consumer discretionary, and industrials (slightly), vastly underweights financials, healthcare, and consumer staples, and then underweights the rest of the sectors.

Why the Vanguard Growth ETF could be right (or wrong) for you

2023 has been a perfect storm for a rebound in all the major sectors the Vanguard Growth ETF is heavily concentrated in. There aren't too many large-cap funds with over 200 holdings that can beat the Nasdaq during a bull market. But the Vanguard Growth ETF is one of them.

The fund is a simple way to get exposure to proven, reliable growth companies with a very low entry point. Instead of having to buy shares or fractional shares in a bunch of different stocks, Vanguard lets you invest in the ETF for as little as $1.

Over the last few years, the fund's performance has resembled the performance of the Nasdaq Composite due to its concentration in big tech. But there are a lot of great companies that are excluded from the Nasdaq Composite that are included in the Vanguard Growth ETF. The ETF is basically cherry-picking the best growth stocks from the S&P 500 and Nasdaq Composite and putting them into one low-cost package.

Despite its advantages, the fund also has some glaring drawbacks. It can fall by quite a bit during a market downturn, as we saw in 2022 when it lost a third of its value. Sectors like consumer staples, healthcare, and utilities tend to have high yields and are resistant to recessions. By underweighting those sectors, the fund is unlocking growth opportunities at the expense of the safety that those sectors can provide during a bear market.

The ETF also doesn't have exposure to smaller companies, which can limit the pace of growth or opportunity for explosive gains.

It also has a low yield, which isn't suited for income-orientated investors.

And finally, the fund has a 32.2 price-to-earnings (P/E) ratio, a premium valuation relative to the 21.2 P/E ratio of the Vanguard S&P 500 ETF.

Why the Vanguard Growth ETF could keep going higher

Although the Vanguard Growth ETF is around a 52-week high, it is still down nearly 10% from its all-time intraday high of $328.52 on Nov. 22, 2021.

The easiest way for the fund to keep surging higher is for big tech to continue to lead the market as it has done all year. Many mega-cap stocks like Amazon and Tesla are still well off their highs. We could also see major breakthroughs in artificial intelligence from a company like Microsoft, which makes up 12.9% of the fund on its own.

Another scenario is that the rest of the market catches up. There are Vanguard Growth ETF holdings like Nike, Walt Disney, and Netflix that are still down 30% or more from their highs. Even if big tech cools off, a rebound across the fund's smaller holdings could still help drive the fund to an all-time high.

However, it would be a big mistake to downplay the importance of big tech to the fund's performance. Apple, Microsoft, Alphabet, Amazon, Meta Platforms, Nvidia, and Tesla -- commonly known as the "Magnificent Seven," a term coined by Bank of America analyst Michael Hartnett -- make up 50.3% of the fund's holdings.

So while the fund can do well outside of these companies, it is probably going to underperform the S&P 500 if the Magnificent Seven aren't leading the market. In fact, if you take away the performance of the Magnificent Seven, the market would have a very poor year so far in 2023.

A fund that is worth a look

The Vanguard Growth ETF is an excellent choice for an investor looking for a baseline amount of diversification who has a long-term time horizon and would happily exchange lower dividend income and less value for more growth.

However, it's not necessarily a good choice for an investor in the asset distribution phase of their life, someone who likes generating passive income, or an investor who doesn't want to buy an ETF that trades at a hefty premium to the S&P 500.