Exchange-traded funds can be an investor's best friend. They offer an inexpensive way to get exposure to the market and have much greater trading flexibility than traditional mutual funds. But as ETFs' popularity has soared, so has the number of funds available. There are now hundreds of ETFs, so a potential investor has to do a lot of searching to find the specific fund that's right for him or her. Below, we examine some of the best small-cap ETFs around, so if you are in the market for some small-cap exposure, listen up.
Small-blend ETFs
If you want to stick as close to the traditional small-cap benchmark as possible, an index tracker such as the iShares Russell 2000 Index ETF (NYSE:IWM) is right up your alley. This fund uses a sampling strategy to track the Russell 2000 index, which consists of 2,000 of the smallest capitalization-weighted companies included within Russell's broader 3000 index. This fund has been around longer than many ETFs and has done a pretty good job of tracking its index. The fund will tend to lag the Russell 2000 each year by roughly the amount of its expense ratio (0.20%), but that's what you'd expect from a fund like this.
If you're looking to track a slightly different small-cap benchmark, try the Vanguard Small-Cap ETF (AMEX:VB). This fund tracks the MSCI US Small Cap 1750 index, which represents about 11% of the total U.S. equity market. This particular index can perform quite differently from the Russell 2000 at times and tends to be a bit more volatile. Therefore, expect this fund to experience more swings in returns from year to year. But the fund's low 0.10% expense ratio is hard to beat.
On the other hand, if you're willing to take a slight bet on some active management, the iShares Morningstar Small Core ETF (NYSE:JKJ) may work for you. This fund tracks the performance of the Morningstar Small Core Index, which Morningstar built to measure the performance of some of the smallest companies in its U.S. Market index. Morningstar also adds some quantitative screens to the index to include only those small-cap stocks with low prices in relation to their earnings, book value, cash flow, and dividends. This fund has performed well over its short three-year life span and comes with a reasonable 0.25% expense ratio.
Small-value ETFs
While it's usually not necessary to buy style-specific funds at the small-cap level, if you find yourself in need of such an investment, there are a few options. One of the better small-value funds is the iShares S&P 600 Value ETF (AMEX:IJS). This fund tracks the performance of the S&P Small Cap 600/Citigroup Value index, which consists of those holdings from the S&P 600 Index with the lowest price-to-book ratios. This fund has been around for seven years now and includes expenses of 0.25%. The S&P 600 index is also a bit more volatile than some of the broader small-cap indexes, so expect some bumps in the road here from time to time.
Small-growth ETFs
On the growth side, the Vanguard Small-Cap Growth ETF (AMEX:VBK) is a great option. This ETF tracks the MSCI US Small Cap Growth Index, which consists of the more growth-oriented companies of the MSCI US Small Cap 1750 Index. The fund uses a full replication method of tracking and seeks to invest in all of the stocks that make up the index. The Vanguard Small-Cap Growth ETF began in January 2004 and has the highest three-year return of any small growth exchange-traded fund on the market. An impressive 0.12% expense ratio makes this fund a great choice for growth-minded small-cap investors.
A parting reminder
Whichever route you take to get your small-cap exposure, steer clear of leveraged and bear market funds. Don't try to double up on the return of the small-cap market in an attempt to make some quick money; that's gambling, not investing. And don't try to time the market by getting into a bear market fund in anticipation of a market drop. Investors are notoriously bad at making market timing calls like this. Bear market funds go down more often than they go up, so stay away from ETFs that short the small-cap market. Stick to broad, well-diversified funds, and your ETF experience is likely to be a positive one.
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Fool contributor Amanda Kish lives in Rochester, N.Y., and does not own shares of any of the companies or funds mentioned here. The Fool has a disclosure policy.
