VTI vs. IWM: Which Broad Index ETF Is the Better Buy?

A hot topic of debate among investors right now is whether small-cap stocks belong in your portfolio -- and if so, how much. For most of the past few years, the U.S. stock market's largest companies, especially the tech powerhouses, have delivered the biggest returns, while smaller companies have lagged. But that might be changing.

The iShares Russell 2000 ETF (NYSEMKT: IWM) is a broad index ETF of more than 2,000 small-cap stocks that has outperformed the S&P 500 (SNPINDEX: ^GSPC) of large caps over the past year and year to date. Smaller companies have recently shown strong earnings growth and might be undervalued compared to the big-name stocks.

But if you want to own small-cap stocks, you don't have to choose between large companies' and small companies' stocks. The Vanguard Total Stock Market ETF (NYSEMKT: VTI) lets you own nearly 3,500 stocks, representing the full range of the U.S. stock market -- including large-cap, mid-cap, and small-cap stocks.

The iShares Russell 2000 ETF (IWM) has outperformed the Vanguard Total Stock Market ETF (VTI) through the first half of this year and over the past 12 months. But can this outperformance continue?

In the long run, over the past 10 years (through June 30), VTI has strongly outperformed IWM:

IWM Total Return Level data by YCharts

Let's look at which of these U.S. stock index funds could be the best choice for your portfolio.

iShares Russell 2000 ETF (IWM): 2,021 stocks, 26 years of 8.9% annualized returns

The iShares Russell 2000 ETF ranks among the best small-cap ETFs. Its portfolio is designed to track the performance of the Russell 2000 index, and it holds a total of 2,021 stocks. These are smaller companies in a wide range of industries, not just major tech businesses.

The fund's top five sector holdings are:

• Healthcare: 20.02% of the fund
• Financials: 18.96%
• Industrials: 15%
• Information technology: 13.86%
• Consumer discretionary: 9.65%

This fund has a long track record, dating back to May 2000. From its inception 26 years ago through the first half of 2026, it's delivered annualized returns of 8.9%. That's lower than the S&P 500's overall average annual return of 10%. It's also lower than the Vanguard Total Stock Market ETF, which has delivered long-term annualized returns of 9.6% from its inception in May 2001 through the first half of this year.

Image source: Getty Images.

Vanguard Total Stock Market ETF (VTI): "All the stocks" in the U.S. market

When people talk about buying a broad index fund, they might assume that means an S&P 500 ETF. Indeed, buying the 500 largest U.S. stocks is usually a good way to buy many stocks and build a diversified portfolio. But the Vanguard Total Stock Market ETF (VTI) is even bigger, broader, and more diversified.

Instead of the S&P 500, this Vanguard ETF holds a portfolio of 3,484 stocks (as of May 31), representing all sizes and sectors of the entire U.S. stock market. The top five sectors in the Vanguard Total Stock Market ETF are:

• Technology: 42.3% of the fund
• Consumer discretionary: 12.8%
• Industrials: 11.8%
• Financials: 9.7%
• Healthcare: 8.5%

This fund is a lot more tech-heavy than the Russell 2000 ETF. As of May 31, the top 10 stock holdings in the Vanguard fund are all major tech names, making up almost 35% of the portfolio. But owning those big growth stocks has helped this fund deliver stronger returns than the iShares small-cap ETF. In the five-year period ending June 30, VTI delivered average annual returns of about 12.2%, strongly outperforming the iShares Russell 2000 ETF, which has returned about 6.9% per year in that time frame.

Why buy VTI instead of IWM?

I own the Vanguard Total Stock Market ETF (VTI), and I think it's a better choice than the iShares Russell 2000 ETF (IWM) for most investors. The biggest reason: VTI is more diversified, with more than 3,400 stocks. It includes all kinds of U.S. stocks, not just large-cap or small-cap companies. The Vanguard ETF also charges lower fees, with a rock-bottom expense ratio (0.03%) versus 0.19% for the iShares small-cap fund.

No one knows for sure if small caps or large caps will do better in the long run. The safest move, in my opinion, is to buy them both. When you own the Vanguard Total Stock Market ETF, you get thousands of small-cap stocks, as well as the largest publicly traded companies. For long-term investors with a five-year (or longer) time horizon, buying "all the stocks" is usually a better bet than just the small-cap stocks.

Ben Gran has positions in Vanguard Total Stock Market ETF. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.