The S&P 500(SNPINDEX: ^GSPC) index is in a raging bull market, and it has generated a 21.9% return this year -- more than twice its average annual return dating back to 1957.
However, the Vanguard Growth ETF(NYSEMKT: VUG) is doing even better with a year-to-date gain of 23.9%. This exchange-traded fund (ETF) has also outperformed the S&P 500 each year, on average, for the last two decades.
That's because the Vanguard ETF holds some of the best-performing stocks from the S&P 500 -- like Nvidia -- with a much higher weighting, which magnifies its overall returns.
The technology sector is likely to continue driving the broader stock market higher in 2025 thanks to trends like artificial intelligence (AI), so here's why I predict the Vanguard ETF will beat the S&P 500 yet again next year.
Image source: Getty Images.
More than half of the Vanguard ETF is invested in technology stocks
The Vanguard ETF invests exclusively in U.S. large-cap companies. It holds 183 stocks from 12 different sectors of the economy, but a whopping 57.7% of the value of its portfolio is occupied by the technology sector.
That means the ETF isn't as diversified as the S&P 500, which features 500 different companies and a tech-sector weighting of just 31.7%.
Each of the top three holdings in the Vanguard ETF are technology stocks, and they account for almost one-third of the entire value of its portfolio on their own. Amazon (which is in the consumer discretionary sector) and Meta Platforms (which is in the communication services sector) round out the ETF's top five positions. The below table displays their individual weightings relative to the S&P 500:
Data source: Vanguard. Portfolio weightings are accurate as of Sept. 30, 2024, and are subject to change.
Those five stocks have generated an average return of 60.1% in 2024 so far, and since the Vanguard ETF holds them in a much higher weighting than does the S&P 500, that explains its outperformance this year:
NVDA Total Return Level Chart
All five of the above companies are at the forefront of the AI revolution, and considering this emerging industry could add anywhere from $7 trillion to $200 trillion to the global economy in the coming decade (depending which Wall Street forecast you rely upon), they could remain a critical source of returns for the S&P 500 and the Vanguard ETF.
Nvidia, for example, was valued at $360 billion at the start of 2023. Less than two years later, its market cap now stands at $3.3 trillion, making it the second-largest company in the world. It's delivering the revenue and earnings growth to back that up, thanks to surging demand for its data center chips, which are the go-to choice among developers of AI software.
Outside of its top five positions, the Vanguard ETF holds several other popular AI stocks, including Alphabet, Tesla, Broadcom, Advanced Micro Devices, and more.
The Vanguard ETF can beat the S&P 500 again in 2025
As I touched on at the top, the Vanguard ETF has a strong track record against the S&P 500. It has delivered a compound annual return of 11.5% since its inception in 2004, which beats the average annual return of 10.1% in the S&P 500 over the same period.
But that outperformance has widened more recently. The ETF has generated a compound annual return of 15.5% over the last 10 years compared to 13.2% for the S&P. That 2.3 point differential might not sound like much, but it can have a big impact in dollar terms over the long run, thanks to the effects of compounding:
Starting Balance (2014)
Compound Annual Return
Balance In 2024
$50,000
15.5% (Vanguard ETF)
$211,246
$50,000
13.2% (S&P 500)
$172,756
Calculations by author.
If AI stocks like Nvidia continue to lead the S&P 500 higher in 2025, the Vanguard ETF should outperform simply because they represent a much larger percentage of its portfolio.
However, even though the ETF has beaten the S&P 500 on average over the long term, that doesn't mean it can't underperform in a given year. In a scenario where AI fails to live up to the hype -- or if companies like Nvidia, Microsoft, and Apple deliver weaker earnings than Wall Street expects -- the Vanguard ETF could suffer a period of underperformance.
As a result, while I predict it will do very well in 2025, investors should own this ETF as part of a balanced portfolio to offset its high exposure to AI stocks.
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John Mackey, former CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool's board of directors. Randi Zuckerberg, a former director of market development and spokeswoman for Facebook and sister to Meta Platforms CEO Mark Zuckerberg, is a member of The Motley Fool's board of directors. Anthony Di Pizio has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Advanced Micro Devices, Alphabet, Amazon, Apple, Meta Platforms, Microsoft, Nvidia, Tesla, and Vanguard Index Funds-Vanguard Growth ETF. The Motley Fool recommends Broadcom and recommends the following options: long January 2026 $395 calls on Microsoft and short January 2026 $405 calls on Microsoft. The Motley Fool has a disclosure policy.
