If you want to be a multimillionaire someday, investing in small-cap stocks is a savvy strategy. Large blue-chip stocks are safer, but small-cap stocks still have substantial room to grow.
Investing in just a couple of small-cap stocks is risky, though. Sure, you could find the next 10-bagger stock. But you could lose everything if something goes wrong for one of these young companies.
A better way to gain small-cap exposure is with an exchange-traded fund (ETF). You can invest across hundreds or even thousands of stocks with a single purchase. Here’s why the Vanguard Small-Cap ETF (NYSEMKT:VB) is perfect for future multimillionaire retirees.
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Can small-cap stocks make you a millionaire?
Vanguard’s Small-Cap ETF tracks an index of 1,469 U.S. stocks with a median market capitalization of $6.4 billion. Generally, a stock is described as a small-cap stock when the market capitalization — or the total value of all of its outstanding shares — is between $300 million and $2 billion. So a lot of the stocks in the fund’s portfolio are better described as mid-cap stocks, which have a market cap of about $2 billion to $10 billion.
As of April 30, the fund’s largest concentrations were in the industrial (19.2%), consumer discretionary (16.4%), and healthcare (14.5%) sectors of the stock market.
The big advantage of investing in these smaller companies is that they have huge upside potential. Of course, most small-cap stocks aren’t going to go on to become the next Facebook or Microsoft. But small-cap stocks have way more growth potential than megacap companies with market caps of hundreds of billions of dollars.
In the past 10 years, the Vanguard Small-Cap ETF has averaged annual returns of about 12.5%. If you’d invested $500 a month in the fund starting in May 2011, you’d have over $125,000 today.
Investing $500 a month and earning 12.5% annual returns would leave you with nearly $1.7 million after 30 years. If you invested that $500 a month in your Roth IRA, all that money could be yours completely tax-free in retirement.
There are plenty of small-cap ETFs out there. But one big appeal of Vanguard ETFs is the ultra-low fees, and the Vanguard Small-Cap ETF is no exception. Its expense ratio is just 0.05%. That means that on a $10,000 investment, just $5 would go toward fees each year.
VB Total Return Level data by YCharts
Should you invest in Vanguard’s Small-Cap ETF?
The Vanguard Small-Cap ETF isn’t for everyone. Small-cap stocks tend to fluctuate more than large-cap stocks, so investing in Vanguard’s Small-Cap ETF only makes sense if you can stomach stock market volatility, especially in the short term. If you’re planning to retire soon or you’re already retired, think carefully before investing a large part of your portfolio in small-cap stocks. You typically want to seek out stable investments at this point in your life.
However, if retirement is at least several years away and you’re seeking an investment with high growth potential, the Vanguard Small-Cap ETF could be a great fit for your portfolio. If you have patience and persistence, the fund could make your retirement a whole lot richer.
This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.