Understand Which S&P 500 ETFs to Choose: VOO, IVV, or SPY in One Article

Image Source: pexels

Let’s get straight to the point. If your goal is long-term holding and minimizing costs, VOO and IVV are your top choices due to their lower fees. Conversely, if you frequently enter and exit the market or trade options actively, SPY’s unmatched liquidity gives it a significant advantage.

The reason index investing matters is because most professional managers struggle to beat the market. Data shows that over the past twenty years, as many as 91% of fund managers underperformed the S&P 500 index.

Key Takeaways

• Long-term investors should choose ETFs with low expense ratios. VOO and IVV have lower fees and are suitable for long-term holding.
• Active traders should choose ETFs with high liquidity. SPY’s large trading volume makes it ideal for frequent buying and selling.
• The S&P 500 invests in 500 large U.S. companies. Investing in it helps diversify risk and participate in U.S. economic growth.
• Dollar-cost averaging helps smooth out the average purchase cost. It is a simple and effective investment strategy.
• Asset allocation is important. Allocating part of your capital globally helps reduce single-market risk.

Understanding the S&P 500: Why It’s Worth Investing In

Before comparing VOO, IVV, and SPY, you must first understand the target they all track: the S&P 500 Index (S&P 500). Understanding the nature of this index is the first step toward making the right investment decision.

What is the S&P 500 Index?

Simply put, the S&P 500 Index is a stock market index composed of 500 large U.S. publicly listed companies. These companies span key industries such as technology, finance, healthcare, and consumer sectors, and the index is widely regarded as a key indicator of overall U.S. economic and stock market performance.

When you invest in the S&P 500 Index, you’re not betting on the success or failure of any single company—you’re investing in the long-term growth potential of the U.S. economy as a whole.

The Advantages of Investing in Index ETFs

You may ask, why not just pick a few big company stocks? Investing in ETFs that track the S&P 500 offers several irreplaceable advantages:

• Instant diversification: Buying one share of an S&P 500 ETF means you are effectively purchasing small portions of 500 companies. This diversified approach helps spread risk. Even if a few companies perform poorly, the impact on your overall portfolio is minimal.
• Low cost: Compared with actively managed funds that require managers to select individual stocks, passively tracking index ETFs have extremely low management costs. This means more of your money stays invested and compounds over time.
• Stable long-term growth: Historical data shows that although markets experience short-term fluctuations, the U.S. stock market trends upward over the long run. Investing in the S&P 500 allows you to participate in this long-term growth potential.

The chart below shows the index’s performance in specific years. You can see that even after experiencing significant downturns, the market eventually rebounds strongly.

In summary, investing in S&P 500 ETFs allows you to participate in the growth of America’s top companies in a simple, low-cost way while enjoying the benefits of diversification.

Expense Ratio Comparison: The Hidden Killer of Long-Term Returns

When choosing ETFs, many investors focus solely on price and historical performance but overlook a key factor that silently erodes your wealth: expense ratio.

This fee is like a small leak at the bottom of a ship. You might not notice it in the short term, but as time goes on, the water accumulates and slows you down. In the investment world, this “leak” directly reduces your final returns.

Overview of VOO, IVV, and SPY Expense Ratios

Let’s look at the cost comparison among these three ETFs. The expense ratio represents the annual operational and management fees deducted automatically from the fund’s assets.

Here is the latest comparison:

Key Insight: You can clearly see that VOO and IVV have an expense ratio of only 0.03%, while SPY’s rate is around 0.09%, three times higher than the first two.

You may wonder whether the difference between 0.03% and 0.09% is really meaningful. The answer: thanks to compound interest, this tiny difference can become a massive gap over time.

The Compound Effect of Costs on Long-Term Investing

Let’s illustrate this “invisible cost” with a practical example.

Assume you invest $100,000 in an S&P 500 ETF and hold it for 20 years, with an assumed annual return of 10%.

• Scenario 1: VOO or IVV (0.03% expense ratio)
  • After-fee annual return: 10% - 0.03% = 9.97%
  • Total value after 20 years: $100,000 × (1 + 0.0997)^20 ≈ $668,338
• Scenario 2: SPY (0.0945% expense ratio)
  • After-fee annual return: 10% - 0.0945% = 9.9055%
  • Total value after 20 years: $100,000 × (1 + 0.099055)^20 ≈ $660,418

A difference of $7,920 emerges in just 20 years.

This nearly $8,000 gap is entirely due to higher fees eroding your returns. This money doesn’t go into your pocket—it goes to the ETF issuer. If your investment horizon extends to 30 or 40 years or you invest larger amounts, the difference becomes even more dramatic.

For long-term investors, every basis point matters. Choosing VOO or IVV gives you a more favorable starting point for future wealth accumulation.

Liquidity and Trading Volume: The Key for Short-Term Traders

Image Source: unsplash

In the previous section, we explored how expense ratios impact long-term returns. Now let’s turn to another critical indicator: liquidity.

Think of liquidity as the level of activity in a marketplace. A highly liquid asset is like a bustling market full of buyers and sellers—you can easily buy or sell at your desired price. A less liquid asset resembles a quiet shop where you may need to wait longer or compromise on price.

The most direct measure of liquidity is trading volume.

SPY: Built for Active Trading

If you frequently enter and exit the market or trade options regularly, SPY is your best choice due to its unparalleled liquidity.

Let’s look at the data by comparing the average daily trading value of these ETFs:

Key Insight: SPY’s daily trading value is more than 20 times that of VOO or IVV. This massive difference provides SPY with two main advantages: extremely tight bid-ask spreads and an active options market.

1. Extremely tight bid-ask spreads

The bid-ask spread is the difference between the highest price buyers will pay and the lowest price sellers will accept. It is essentially a trading cost. Due to SPY’s high liquidity, its spreads are minimal, meaning:

• High execution efficiency: Your orders are filled quickly and near market price.
• Lower trading costs: Especially beneficial for large or frequent trades, and the advantage becomes even more significant during volatile markets.

2. Active options market

SPY has the most active ETF options market in the world. This matters for traders using more advanced strategies.

• Wide selection: A diverse range of strike prices and expirations.
• High liquidity: Options contracts also have narrow spreads, making hedging or speculating efficient.

In short, SPY is built for speed and efficiency, making it the ideal tool for active traders.

VOO and IVV: Perfect for Long-Term Investors

At this point, you might worry that VOO and IVV have significantly lower liquidity than SPY.

The truth: For the vast majority of long-term investors, this is not an issue at all.

Although VOO and IVV have lower volume than SPY, their liquidity is still abundant. With more than $1 billion traded daily, they remain among the most popular ETFs in the market.

For a buy-and-hold investor who may trade only a few times a year:

• Liquidity is more than sufficient: You can easily execute trades without noticeable additional costs. The bid-ask spread is slightly wider than SPY, but its impact is minimal for infrequent trades.
• Expense ratio matters more: As shown earlier, a 0.06% fee difference can translate into thousands or tens of thousands of dollars over the long term—far more impactful than the minor cost from less frequent trading.

In fact, the assets under management for VOO and IVV have surpassed SPY in recent years, reflecting investor preference for low-cost ETFs.

Therefore, if your goal is long-term wealth accumulation, VOO or IVV remains the better choice.

Structure and Dividends: Details That Are Often Overlooked

Image Source: pexels

Beyond fees and liquidity, two details often overlooked are the internal structure of ETFs and how dividends are handled. While their impact is small, understanding them offers a more complete view of these three ETFs.

ETF Structure Differences: Unit Investment Trust vs. Open-End Fund

VOO, IVV, and SPY all track the same S&P 500 Index, but they differ in legal structure.

• SPY: Unit Investment Trust (UIT)
  SPY is the oldest ETF in the U.S. and uses an earlier UIT structure. You can think of a UIT as a “fixed portfolio” that is established at issuance and has a maturity date. This structure is less flexible and does not adjust holdings frequently.
• VOO and IVV: Open-End Funds
  VOO and IVV use a more modern open-end fund structure. Fund companies can issue new shares when new capital flows in and redeem shares when investors cash out. This structure allows more flexible asset management.

Simple analogy: If ETFs are like boxes holding 500 company stocks, SPY is a sealed metal box with a set expiry date, while VOO and IVV are flexible containers that can expand or shrink as needed.

A Small Advantage in Dividend Reinvestment

This structural difference leads directly to different dividend handling methods, resulting in what is known as “cash drag.”

• SPY’s method: Due to UIT restrictions, SPY cannot immediately reinvest dividends received from its constituent stocks. Instead, dividends sit idle in cash until distributed to investors quarterly.
• VOO and IVV’s method: Their open-end structure allows immediate reinvestment of dividends before distribution, keeping funds continuously active in the market.

In a rising market, SPY’s idle cash misses some compounding benefits. Although the impact is small, VOO and IVV do enjoy a slight advantage in long-term compounding efficiency.

However, it’s important to recognize that the performance difference from dividend handling is much smaller than the difference caused by expense ratios. For long-term investors, SPY’s higher costs remain the more significant disadvantage.

Preparation Before Investing: Building the Right Strategy

You now understand the key differences among VOO, IVV, and SPY, but choosing an ETF is just the first step. Building an investment strategy that suits you is what helps you progress steadily over the long term.

Dollar-Cost Averaging: A Method to Smooth Out Costs

For most investors, dollar-cost averaging (DCA) is a simple and effective strategy. It helps maintain discipline without taking on additional risk.

The idea is to invest a fixed amount of money at regular intervals. When prices fall, your fixed amount buys more shares; when prices rise, it buys fewer. This helps average out the cost and overcome the psychological pressure of market timing. For example, investors who used DCA during the market crash in early 2020 bought more shares at lower prices, benefiting greatly from the subsequent rebound.

What you need to know: Although DCA reduces volatility risk, research shows that in most cases, lump-sum investing yields higher long-term returns, with average performance differences reaching 2–3% over ten years. Still, for those unable to invest large sums at once or who fear buying at the peak, DCA is an excellent way to build investing habits.

Asset Allocation: How Much Should You Invest?

Determining how much to allocate to the S&P 500 ETF is a crucial part of portfolio construction. A common guideline is allocating 30%–60% of total assets to U.S. large-cap ETFs, though the exact proportion depends on your age and risk tolerance.

Warren Buffett once recommended a simple “two-fund” portfolio for his family:

• 90% in a low-cost S&P 500 index fund
• 10% in short-term U.S. government bonds

This reflects his immense confidence in the long-term performance of the U.S. economy. However, even with a diversified S&P 500 ETF, global diversification remains important. Allocating 15%–20% to international equities helps you:

• Capture growth opportunities outside the U.S., such as Europe’s luxury sector or Asia’s semiconductor industry
• Reduce single-market risk: Other markets can offset U.S. downturns
• Achieve currency diversification: Avoid relying solely on the U.S. dollar

How to Make Your Final Choice: Decision Summary

Based on all the information above, you can choose according to your investor profile:

For long-term investors: If your goal is buy-and-hold and long-term wealth accumulation, VOO or IVV is your best choice. Their ultra-low expense ratios maximize compounding returns.
For active traders: If you frequently trade, use options, or require lightning-fast execution, SPY is indispensable thanks to its unmatched liquidity and tight spreads.

Ultimately, choosing among these ETFs is not the sole determinant of success. More importantly, start early and stay disciplined.

For most long-term investors, choosing the low-cost VOO or IVV is the most logical decision.

However, picking an ETF is not the most important thing—the core lies in establishing a disciplined long-term investment approach. Rather than overthinking the choice, it’s better to take action now.

Warren Buffett once said, “Time is the friend of the wonderful company, the enemy of the mediocre.”

Start now and let compound interest work its magic for you.

Frequently Asked Questions

VOO and IVV are almost identical—how should I choose?

VOO and IVV offer nearly identical fees and tracking performance. You can decide based on personal preference or brokerage trading incentives. For long-term investors, the difference is negligible, so there’s no need to overthink it.

Do I need to pay taxes when investing in these ETFs?

Yes. If you are a non-U.S. investor, your dividends will be subject to a 30% withholding tax. This is common for U.S. stocks and ETFs. Capital gains taxes depend on the tax laws of your location.

Can I invest in VOO, IVV, and SPY at the same time?

You can, but it’s unnecessary. All three track the same index with highly overlapping holdings. Holding them simultaneously does not provide diversification benefits and may complicate portfolio management.