This Potential Change to the Vanguard Total Stock Market ETF (VTI) Is Setting off Alarm Bells

Diversified versus non-diversified

Under the Investment Company Act of 1940, a fund is considered “diversified” if no more than 25% of its assets are in positions of 5% or greater each.

As of December 5th, ETF Central data indicated that VTI had three holdings exceeding 5%: Apple (6.09%), Nvidia (5.79%), and Microsoft (5.63%), collectively making up 17.51% of the fund.

Therefore, additional market gains for these stocks, or for its next two largest holdings—Amazon (3.28%) and Meta (2.31%) could push VTI closer to that threshold.

If VTI were classified as non-diversified, the implications go beyond mere concentration risks in mega-cap growth stocks and tech sector exposure.

Institutional investors, particularly those governed by ERISA (the Employee Retirement Income Security Act), often have strict investment policies requiring holdings in diversified funds.

Losing its diversified status could impact VTI and its mutual fund counterpart, Vanguard Total Stock Market Index Fund Admiral Shares (VTSAX), a staple in many 401(k) plans.

Should investors care?

I’ll side with the Bogleheads here and say this issue is likely to be inconsequential over time.

VTI is still doing exactly what you’re paying it to do—replicating its benchmark, the CRSP US Total Market Index, with low tracking error and minimal fees. It’s staying true to the principles of passive investing, even if the broader market dynamics shift.

Part of being a passive investor means staying the course. And yes, that includes sticking with your investments even when “Mr. Market” gets loony and decides that tech stocks are worth more than everything else combined.

As of November 12, tech stocks made up a hefty 38.32% of VTI’s total weight, which might seem excessive, but it reflects current market realities. Do you really want to underweight the winners?

Ultimately, this is one of the trade-offs of market-cap weighting. In the long run, I think the benefits—low costs, low turnover, and efficient exposure—far outweigh the temporary drawbacks of sector concentration.

And if VTI ever gets truly lopsided, there’s no reason why Vanguard can’t adjust the index it tracks. After all, they’ve done it twice before.

VTI originally tracked the Dow Jones U.S. Total Stock Market Index (formerly the Dow Jones Wilshire 5000 Index) until April 22, 2005, and then the MSCI US Broad Market Index until June 2, 2013, before switching to its current benchmark. Vanguard has a history of making pragmatic changes when needed.

What if you disagree?

The beauty of ETF investing is that no matter your views, there’s likely an ETF that lets you express your thesis. If VTI’s growing concentration in mega-cap tech stocks makes you hesitant, here are some alternatives to consider.

The easiest solution is equal-weight U.S. equity exposure. The most popular option in this category is the Invesco S&P 500 Equal Weight ETF

. With a 0.20% expense ratio, RSP spreads its holdings evenly across the S&P 500 stocks, providing more mid-cap exposure and avoiding the dominance of the largest companies. That said, it comes with higher turnover and more volatility than VTI.

For those who want active management, I like the Distillate U.S. Fundamental Stability & Value ETF

. At a reasonable 0.39% expense ratio, DSTL offers high active share—this isn’t closet indexing. It starts with 500 profitable U.S. stocks, screens for low leverage and stable cash flows, and uses a normalized free cash flow yield methodology to pick 100 stocks, weighted by free cash flow.

From October 24, 2018, to December 4, 2024, DSTL delivered an impressive 16.62% compound annual growth rate (CAGR), outperforming VTI at 15.85%. It also offered better risk-adjusted returns, with a Sharpe ratio of 0.75 compared to VTI’s 0.71.

Finally, there’s fundamental indexing, which designs and weights an index based on metrics other than market cap, such as earnings or dividends. For more information, check out Jeremy Siegel’s research, especially his book, “Stocks for the Long Run.”

My favorite in this space is the WisdomTree U.S. Quality Dividend Growth Fund

. DGRW selects the top 300 companies from the WisdomTree U.S. Dividend Index based on a combined ranking of long-term earnings growth expectations and three-year historical averages for return on equity / return on assets). Stocks are weighted by their projected cash dividends for the coming year, not by market cap.

DGRW has matched VTI in total returns, with a CAGR of 13.55% vs. 13.66% from May 22, 2013, to December 4, 2024. However, it boasts better risk-adjusted returns, with a Sharpe ratio of 0.80 versus VTI’s 0.74.

Please note this article is for information purposes only and does not in any way constitute investment advice. It is essential that you seek advice from a registered financial professional prior to making any investment decision.