Extended market index fund

Vanguard offers an Vanguard Extended Market Index Fund (VEXMX for investor shares, VEXAX for Admiral shares, VXF for the ETF). Other companies offer similar "extended market index" or "completion index" funds.

These funds are often offered within 401(k) plans, where investors sometimes find them confusing, because the descriptions do not explain clearly what they are for and how they should be used. These funds should be used by investors who want to invest in the total market, and would like to use a total stock market fund, but who, for whatever reason, find it necessary to maintain a holding of an S&P 500 index fund. Such investors should manage their portfolio so as to include the S&P 500 fund and an Extended Market Index fund in about an 80%/20% proportion, and they will then be essentially duplicating the total market. That what these funds are for. There's really no other reason to use them, although a creative person might concoct one.

An investor might be constrained by limited choice in a 401(k) plan, or existing holdings of an S&P 500 fund in a taxable account that can't be exchanged without tax consequences. Obviously, any investor who is not constrained to hold an S&P 500 index fund can simply invest in a Total Stock Market index fund.

The 80%/20% ratio may require rebalancing from time to time, and the ratio may change with the composition of the total market. This does not need to be done frequently or with scrupulous accuracy. One convenient source for the proper current percentage composition is Vanguard's benchmark statistics.

The first sentence in Vanguard's description says, vaguely: "Seeks to track the performance of a benchmark index that measures the investment return of stocks from small and midsize companies," but the second sentence goes on to make things clearer: "Provides a convenient way to match the performance of virtually all regularly traded U.S. stocks except those in the S&P 500 Index."

The formal statement of strategy and policy goes on to say its goal is to "track the performance of the Standard & Poor’s Completion Index [which] contains all of the U.S. common stocks regularly traded on the New York and American Stock Exchanges, and the Nasdaq over-the-counter market, except those stocks included in the Standard & Poor’s 500 Index."

In other words, "Completion" = Total Market with the S&P 500 stocks removed.

Similar, the Fidelity Spartan Extended Market Index tracks the "Dow Jones U.S. Completion Total Stock Market Index," which contains the phrase "total market," and which Dow Jones calls "A subset of the Dow Jones U.S. Total Stock Market Index that excludes components of the S&P 500."

The obvious reason why you'd want the Total Market with the S&P 500 stocks removed is that you have the S&P 500 stocks already. There is no well-known investment theory that ascribes any particular virtue to "the total market except for the S&P 500" as an entity in itself. The composition (according to Morningstar as of 2/2012), 4% large-caps, 44% mid-caps, and 49% small-caps. Investors who want to depart from total market weighting and choose their own proportion of large-cap stocks, probably want to adjust mid-cap and small-cap exposure independently too.