Cost is a significant factor when assessing performance of actively managed funds


Investment costs are always an important component to investing success. Vanguard investing experts Dan Newhall and Daniel Wallick explain why cost can take on more importance when assessing the performance of an actively managed fund.

Notes:
All investing is subject to risk, including the possible loss of the money you invest. Be aware that fluctuations in the financial markets and other factors may cause declines in the value of your account. There is no guarantee that any particular asset allocation or mix of funds will meet your investment objectives or provide you with a given level of income.
Services provided by Vanguard to the Vanguard funds and ETFs are at cost.
Advice services are provided by Vanguard Advisers, Inc., a registered investment advisor.
© 2016 The Vanguard Group, Inc. All rights reserved. Vanguard Marketing Corporation, Distributor  


TRANSCRIPT

Jon Cleborne: So let’s pick up on cost because that’s another question that came in is, “How do Vanguard’s actively managed funds compare to others in the industry?” Maybe, Dan, if you want to talk a little bit about that. We talked about how that’s such a critical component of success, and we know that Vanguard’s known for low cost, but what does that actually mean?

Dan Newhall: Yes. Well, to translate that, you know, Vanguard’s average actively managed fund is at a substantial discount to the industry average.* So that’s a big part. And then how do we do that, I think, is the part I’m very involved in. You know, there’s a couple things. One is, of course, Vanguard is an at-cost mutual fund company, so we keep our costs down. There’s no profit margin on top of that. As these funds grow and become successful, we’re able to pass on economies of scale to investors. And that’s true for the index funds. You know, we tell that story all the time, but it’s also true for our actively managed funds. And then, number two, to the extent that for many, at least, of our actively managed funds, we’ve outsourced it to world-class managers that we’ve been able to identify. What we do for our investors is, investors provide their capital to the fund. That gives us a substantial amount of capital to go out and attract world-class managers who want to run that money. They, of course, want to do well by running that money. We can use our scale to really negotiate an institutional better class fee that we’re the largest buyer of investment management services in the world. And we’re going to negotiate on an arm’s length, independent basis with that manager who, left to their own devices, are prone to charge a higher fee. But with our independent negotiating bargaining power and skills and the fact that they value the partnership with Vanguard and the association, we’re able to negotiate, I think, a win/win for our investors and with the manager that’s attractive to them but in basis points, which is how you measure fees in mutual funds. I think it’s still a very good deal. You know, I might add, too, that when we hire a manager, we think they’re capable of outperforming the market that the fund’s trying to outperform. We think they’re capable of doing that on a gross-of-fees basis over a given period of time, a longer period of time. If we gave that away in a high fee, well, then the net return wouldn’t be so attractive to our investors. So we’ve passed up, we’ve found great managers in the past that we’ve gone our separate ways with because we couldn’t get it to a fee that we felt was a fair split of the excess returns. So that’s really important, and we’re able to do that, again, with our scale and reputation and our arms-length independent negotiating with these advisors.

Daniel Wallick: Jon, maybe I could put a specific number on everything that Dan has said. So the way that comes out specifically is the average fee for our active managers is 0.37%. To put that in context for everybody, that’s cheaper than 99% of our competitors on the active management side and, perhaps surprisingly for many, 70% of the indexes that are offered in the marketplace.**

Jon Cleborne: No kidding!

Daniel Wallick: Yes. So it’s incredibly low-cost relative to the other products that are available.


*Vanguard average active fund expense ratio: 0.27%. Industry average active fund expense ratio: 1.04%. Sources: Vanguard and Lipper, a Thomson Reuters Company, as of December 31, 2015.

**Source: Vanguard: Keys to improving active management success, October 2015

Important information
All investing is subject to risk, including the possible loss of the money you invest. Be aware that fluctuations in the financial markets and other factors may cause declines in the value of your account. There is no guarantee that any particular asset allocation or mix of funds will meet your investment objectives or provide you with a given level of income.
Services provided by Vanguard to the Vanguard funds and ETFs are at cost.
This webcast is for educational purposes only. We recommend that you consult a tax or financial advisor about your individual situation.
Advice services are provided by Vanguard Advisers, Inc., a registered investment advisor.
© 2016 The Vanguard Group, Inc. All rights reserved. Vanguard Marketing Corporation, Distributor.