ETF Flows Signal a Shifting Risk Appetite in U.S. Equities

The U.S. equity market is undergoing a subtle but significant transformation, driven by a reallocation of capital between two of the largest S&P 500 index-tracking ETFs: the SPDR S&P 500 ETF Trust (SPY) and the Vanguard S&P 500 ETF (VOO). This shift, marked by SPY's year-to-date outflows of $19.32 billion and VOO's record-breaking $72.6 billion in inflows as of July 2025, reflects a broader recalibration of investor priorities. The data underscores a growing preference for cost efficiency and structural advantages, even as macroeconomic uncertainties persist.

The SPY-VOO Divide: Cost, Structure, and Investor Behavior

SPY, the first U.S.-listed ETF (launched in 1993), has long been a benchmark for passive investing. However, its 0.097% expense ratio—nearly triple that of VOO's 0.03%—has become a liability in an era where investors increasingly prioritize fee savings. VOO's tax-efficient open-ended structure, which allows for dividend reinvestment and smoother cash flow management, further amplifies its appeal. These structural differences, though technical, have tangible impacts on long-term returns. For instance, a $100,000 investment in VOO would outperform SPY by approximately $1,200 annually in fees alone, a margin that compounds significantly over decades.

The divergence in investor behavior is also tied to the evolving role of ETFs in portfolios. SPY remains a favorite among active traders and institutional investors due to its high liquidity and historical dominance. However, retail investors and financial advisors—particularly those deploying model portfolios—have gravitated toward VOO. These portfolios, which bundle low-cost ETFs into pre-constructed strategies, now often feature VOO as the core equity holding. This trend is accelerating as robo-advisors and wealth management platforms prioritize cost efficiency to enhance net returns for clients.

Macro Context: Risk Appetite and Sector Rotation

The capital reallocation between SPY and VOO must be viewed through the lens of broader market dynamics. According to the S&P Global Market Intelligence Investment Manager Index, U.S. investor risk appetite turned positive in July 2025 for the first time since January, rising to 12% from a low of -13% in June. This cautious optimism is fueled by reduced recession fears, improved earnings expectations, and a stabilizing Federal Reserve policy outlook. However, the Equity Returns Index remains in negative territory (-5%), indicating that investors still anticipate short-term volatility.

Sector preferences highlight this duality. Financials, buoyed by expectations of central bank support, emerged as the most favored sector in July. Meanwhile, consumer discretionary—once a bellwether for economic health—remained the most out-of-favor, reflecting lingering concerns about consumer spending. These shifts suggest a strategic pivot toward defensive and policy-sensitive sectors, with investors balancing growth potential against macro risks like inflation and geopolitical tensions.

Implications for Investors

The SPY-VOO dynamic offers actionable insights for investors. For long-term, passive strategies, VOO's structural and cost advantages make it a compelling choice. Its ability to avoid annual outflows (unlike SPY) and its alignment with model portfolio trends position it as a durable core holding. Conversely, SPY retains relevance for traders and those requiring high liquidity, particularly in volatile markets.

However, the broader lesson lies in the interplay between capital flows and sentiment. The $91.9 billion net shift from SPY to VOO in 2025 signals a maturation of the ETF market, where investors are increasingly discerning about fees and fund structures. This trend is unlikely to reverse, especially as BlackRock's iShares Core S&P 500 ETF (IVV) enters the fray with a 0.03% expense ratio and $610 billion in AUM.

Strategic Recommendations

1. For Buy-and-Hold Investors: Prioritize VOO for its cost efficiency and tax advantages. Rebalance portfolios to include VOO as the primary S&P 500 exposure, especially in retirement accounts where compounding is critical.
2. For Active Traders: Continue using SPY for its liquidity and historical volatility. However, monitor VOO's growth, as its expanding AUM could eventually erode SPY's trading advantages.
3. For Advisors: Leverage model portfolios that integrate VOO to reduce client costs. Highlight the long-term savings from lower expense ratios, particularly for clients with 10+ years to retirement.

The shifting flows between SPY and VOO are not merely a tale of two ETFs—they are a barometer of investor sentiment in a market increasingly defined by cost consciousness and structural innovation. As the Federal Reserve's policy trajectory and global trade dynamics evolve, the ability to adapt to these capital reallocations will be key to navigating the next phase of the equity cycle.