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ETF Overview
Vanguard Total International Stock ETF (VXUS) invests in international stocks based on a market-cap-weighted approach. The ETF tracks the FTSE Global All Cap ex US Index, which includes over 6000 stocks. VXUS is exposed to foreign exchange risk. The fund’s performance often has an inverse correlation to the strength of the USD. There is a possibility that USD can become weaker in the second half of 2019 due to possible rate cuts. This may support VXUS’ fund price in H2 2019. However, we do not see VXUS as a good long-term investment choice as its performance generally lagged behind the S&P 500 Index.
Data by YCharts
Fund Holdings
Geographic breakdown
VXUS’ portfolio of stocks is concentrated in three regions/categories. As can be seen from the pie chart below, European stocks represent about 41.8% of its portfolio followed by Pacific 28.9%, and emerging markets 21.7%.
Source: Vanguard Website
Top Holdings
VXUS has a diversified portfolio with over 6 thousand stocks in its portfolio. This effectively reduces the concentration risk to any specific stock. As can be seen from the chart below, its top holding is only about 1.3% of its total portfolio. Its top 10 portfolio is only about 8.8% of its total portfolio.
Source: Vanguard Website
Fund Analysis
Market cap weighted approach reduces its turnover ratio
VXUS implements market-cap-weighted approach to select which stocks are included in its portfolio. This approach selects stocks that have higher market caps. This approach basically trusts the wisdom of the stock markets to determine which companies are good companies to include. It effectively reduces the turnover rate as stocks don’t get swapped out of the portfolio that easily. This is evident in the fact that its 2018 turnover ratio was about 3.4%. This is comparable to S&P 500 Index’s 3.7%. We like its market-cap-weighted approach but investors should keep in mind that Mr. Market is not always right. There will be stocks (or sectors) that have fallen out of favor by investors based on current market condition. This approach may also result in higher concentration to larger markets or sectors such as Japan, United Kingdom, or China. This high exposure also exposes investors with higher risk to one single country.
Currency risk
Since VXUS invests in international markets, its fund value can be impacted by the swing of foreign exchanges. Certain currencies such as South African rand can be much more volatile than currencies in the developed countries. China’s Renminbi can also be impacted by government regulation and trade tensions between China and the U.S.
Low management expense ratio
Vanguard charges a low management expense ratio of 0.09% for VXUS. VXUS’ MER is slightly lower than iShares Core MSCI Total International Stock ETF’s (IXUS) 0.10% but higher than SPDR Portfolio Developed World ex-US ETF’s (SPDW) 0.04%. MER appears to be an important factor impacting the performance of the three funds we discussed. As can be seen from the chart below, SPDW slightly outperforms VXUS and IXUS, as it has a lower MER than its peers.
Data by YCharts
Performance lags behind S&P 500
Although many international markets tend to deliver strong economic growth rates than the U.S., this does not necessary translate into strong market returns. As can be seen from the chart below, VXUS’ fund performance lagged behind S&P 500 Index since 2011. In fact, its fund performance over the span of 8 years was only 6.6%. On the other hand, S&P 500 Index increased by nearly 130% in the same time frame. Owning S&P 500 is likely a better approach especially because many of these large cap stocks in S&P 500 Index already have a sizable international exposure already.
Data by YCharts
Valuation not expensive relative to S&P 500 Index
The price to earnings ratio of VXUS’ portfolio is about 13.7x. This is several multiples lower than the ratio of 19.0x of the S&P 500 Index. VXUS’ earnings growth rate of 9.5% is slightly less than S&P 500 Index’s 10.4%. Overall, we think VXUS is not expensive. However, investors should keep in mind that VXUS’ average annual return of 1.5% in the past 5 years lags behind S&P 500 Index’s 9.6%.
Pay attention to Fed’s policy and the strength of USD
One effective strategy to invest in VXUS is to follow the strength of the U.S. dollar. When the USD strengthens against other currencies, a significant amount of money will flow from international markets to the U.S. On the other hand, when the USD weakens, funds will flow out of U.S. to other countries. A significant portion of the money will often invest in stocks oversea. This will generally drive the stocks higher. As can be seen from the chart below, VXUS’ share price inversely correlates with the strength of the USD (see chart below).
Data by YCharts
With the Federal Reserve signaling a possible rate cut in the second half of 2019, we think this will result in a weaker USD. Since we know VXUS’ share price inversely correlates with the strength of the USD, its fund price will likely trend higher when the USD weakens. Therefore, it appears to be a good time to invest in VXUS. However, investors should keep in mind that if the current economic situation worsens and the global economy falls into a recession, stock markets will slide regardless of the strength or weakness of the USD.
Investor Takeaway
VXUS may be a good vehicle to gain exposure to international markets. However, its fund performance lags behind the S&P 500 Index. We think the S&P 500 Index is actually a better choice as many companies in the index have sizable businesses outside the U.S. already.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: This is not financial advice and that all financial investments carry risks. Investors are expected to seek financial advice from professionals before making any investment.
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