S&P 500 vs Total Market Funds: Which to Pick?
This article helps you decide between S&P 500 index funds and total market index funds by comparing their holdings, performance, costs, and tax efficiency. You’ll learn the key differences and get a clear recommendation based on your investment goals. By the end, you’ll know which type of fund is the better fit for your portfolio.
What Are S&P 500 and Total Market Funds?
Both are index funds that track a benchmark of U.S. stocks. An S&P 500 fund holds the 500 largest publicly traded U.S. companies, representing about 80% of the total U.S. stock market value. A total market fund holds those same 500 stocks plus thousands of smaller companies, aiming to capture the entire U.S. equity market. The most popular total market index is the CRSP US Total Market Index, which includes over 3,500 stocks.
Holdings and Overlap
The two funds are more similar than different. Because the largest companies dominate the market, the S&P 500 and the total market have roughly 80% overlap by weight. The total market fund adds small-cap and mid-cap stocks, but these make up a small portion of the portfolio. For example, the Vanguard Total Stock Market Index Fund holds about 3,500 stocks, while the S&P 500 fund holds 500. Yet the total market fund’s performance tracks the S&P 500 very closely because the extra stocks are a small slice of the total.
Performance Differences
Historically, the performance difference between the two is tiny. Over the past 15 years, the total market index has slightly outperformed the S&P 500 in some periods and underperformed in others, but the gap is usually less than 0.5% per year. For instance, from 2010 to 2020, the S&P 500 returned about 13.5% annually, while the total market returned about 13.8% annually. The extra return came from small-cap stocks, which had a strong decade. However, in the 2000s, large caps beat small caps, so the S&P 500 came out ahead. Over long periods, the difference is negligible.
Costs and Expense Ratios
Both fund types are incredibly cheap, but total market funds are often slightly more expensive. The Vanguard S&P 500 ETF (VOO) has an expense ratio of 0.03%, while the Vanguard Total Stock Market ETF (VTI) charges 0.03% as well. Fidelity offers both at 0.00% expense ratios. When costs are this low, the difference is negligible. However, if you choose a non-index fund, costs can be significantly higher, so always check the expense ratio.
Tax Efficiency
Both are tax-efficient because they have low turnover, meaning they rarely sell holdings and trigger capital gains. The total market fund may be slightly more tax-efficient because it holds more stocks, which can reduce the impact of any single stock’s gain. But the difference is minimal. For taxable accounts, either is a good choice. For tax-advantaged accounts like IRAs and 401(k)s, tax efficiency matters less.
How to Choose
- If you want maximum simplicity: Choose an S&P 500 fund. It’s the most widely used benchmark, and you’ll find it in most 401(k) plans.
- If you want broader diversification: Choose a total market fund. It includes small and mid-cap stocks, giving you exposure to the entire U.S. market.
- If you’re investing in a taxable account: Either works, but total market funds have a slight tax edge.
- If you’re a buy-and-hold investor: The difference is so small that picking either is fine. The key is to stick with it.
Common Misconceptions
One myth is that total market funds are more volatile because they include small caps. In reality, the volatility is nearly identical because small caps make up a small portion of the fund. Another misconception is that S&P 500 funds are “safer” because they only hold large companies. While large caps are less volatile, the difference is small, and both are subject to market risk. Finally, some investors think they need both funds, but that’s unnecessary because of the massive overlap.
Frequently Asked Questions
Which fund has higher returns?
Historically, total market funds have slightly outperformed S&P 500 funds over long periods, but the difference is usually less than 0.5% per year. The extra return comes from small-cap stocks, which have higher expected returns but also higher volatility. Over any 10-year period, the winner can vary.
Should I own both?
No, because they overlap by about 80%. Owning both adds complexity without meaningful diversification. If you want the entire market, choose a total market fund. If you want only large caps, choose an S&P 500 fund.
Are total market funds more expensive?
Not necessarily. Many brokers offer both at the same expense ratio, often 0.03% or less. Some total market funds are slightly more expensive, but the difference is negligible.
Which is better for a 401(k)?
Most 401(k) plans offer an S&P 500 fund, but not all offer a total market fund. If both are available, either is fine. The most important thing is to invest consistently and keep costs low.
Do total market funds pay more dividends?
Total market funds may pay slightly higher dividends because small-cap stocks often pay higher yields, but the difference is small. Both funds distribute dividends quarterly, and the yield is typically around 1.3% to 1.5%.
Can I switch between them without tax consequences?
In a taxable account, selling one fund to buy the other triggers capital gains taxes. In a tax-advantaged account like an IRA, you can switch freely. If you’re unsure, consider holding both temporarily until you decide.
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