Vanguard's Growth ETF Usually Beats the Market After a Lagging Year. I'd Own It, but Not for a 2027 Rebound.

On October 6, the Vanguard Morningstar Growth ETF (VUG) reached a new high of $92.64, though it has since dropped to around $87 as of now. In comparison, the S&P 500 market index has only declined by less than 3% over the same period. As a result, VUG has gained approximately 7% in 2026, while the S&P 500 has increased by about 11%. If this discrepancy persists until the end of the year, it would mark the first time since 2022 that VUG has underperformed the S&P 500 based on price alone.

Upon reviewing VUG's daily closing prices since 2005, it's been in the red in five full years, but managed to outperform the index in the following year in four out of those cases. However, I don't believe the historical data tells the whole story. VUG is heavily invested in a few large stocks, mainly tech companies, compared to the broader S&P 500.

As of September, VUG's top 10 holdings comprised roughly 66% of its assets, while the S&P 500 ETF had around 41%. Of these top stocks, six have lagged the S&P 500 this year, accounting for about a third of VUG's assets in September.

Through September, VUG lagged the S&P 500 by just about a percentage point, but this gap widened significantly in October. In a single week in mid-October, 20 of the world's largest AI and chip stocks lost more than $1 trillion in market value due to concerns about AI spending and a concerning inflation report. Notably, the fund's top holding, Nvidia, is now trading about 12% below its October 6 close.

Additionally, rising interest rates, which the Federal Reserve increased by a quarter point to a range of 3.75% to 4% in September, are also impacting growth stocks, as their value is often based on profits expected years in advance.

VUG has lagged the S&P 500 in five other years: 2006, 2008, 2016, 2021, and 2022. However, it has beaten the index by around 8 percentage points in 2007, 11 points in 2009, 7 points in 2017, and 22 points in 2023. The last lag occurred in 2022, when VUG fell roughly 34% compared to about 19% for the S&P 500, following a significant interest rate hike by the Fed in 2021.

Although the magnitude of the gaps has varied, the two most notable lags were both followed by strong years for growth stocks. This year's gap is roughly 5 points, which is similar to the two past lags.

Yet, despite these two clear lags, VUG has outperformed the S&P 500 in the majority of years. From 2005 to 2025, the fund has beaten the index in 16 out of the 21 full calendar years, giving it a win rate of about 76%. Following lag years, VUG has won around 80% of the time. This suggests that a rebound after a lag year is more likely to be in line with VUG's usual performance rather than a sign of a special opportunity.

Additionally, VUG is trading at a higher price-to-earnings ratio of 32.1 compared to the S&P 500 ETF's 24.7, reflecting the higher valuation investors are paying for its faster growth. After a 4% decline since the end of September, the fund now costs approximately 31 times earnings. While I believe VUG can be a reasonable long-term investment, I wouldn't expect it to erase this year's lag in 2027, as one year of underperformance could easily lead to another in 2022.