Vanguard leaders discuss portfolio construction topics

Many investors consider both active and passive fund management when building their portfolios. In this video, experts from Vanguard’s Investment Strategy Group and Portfolio Review Department discuss how both approaches—not necessarily “either/or”—can be useful in helping achieve long-term investment goals.


Vanguard Perspectives® Join Amy Chain and senior thought leaders from Vanguard’s Investment Strategy and Portfolio Review groups to discuss portfolio construction topics that have become top of mind for our investors. Here’s what our experts had to say in today’s episode.

Amy Chain: Hi, I’m Amy Chain at Vanguard. Welcome to today’s program, where we’ll discuss the considerations for combining active and passive investments, a topic that’s top of mind for many investors across the globe. Joining us to address common client questions on the topic, and discuss a framework investors can follow, are members of Vanguard’s global Investment Strategy Group and Portfolio Review Department. Thanks for being here today. We’ve been hearing a lot about new ways of indexing, like smart beta, fundamental indexing, and active quantitative indexing. Many clients consider both active and passive when building their portfolios. Let’s start our discussion today by first understanding how passive management may be a good option for investors. Walter, kick us off.

Walter Lenhard: Thanks, Amy. Indexing may be a great option for investors who are unsure about their ability to select an actively managed fund. There are thousands of different actively managed funds out there, and it’s difficult to do the research and figure out which one to buy. So over the last few years, we’ve been getting a lot of cash flow into our index products. Investors seem to be very interested in getting broad-based asset class exposure at an extremely low expense ratio.

Brian Wimmer: Yeah, low cost is really the key. You can get different investment strategies at a low cost, but indexing is one of the primary ways that you can access a great investment strategy at a low cost, which offers the possibility of improving returns. And if we look historically, we have seen that low cost index funds tend to outperform a significant portion of the generally higher cost active management funds out there.

Jeff Johnson: And the proliferation of index strategies covering a wide range of asset classes and investment strategies today means that more investors are employing index strategies—even in cases where they’d like to develop active tilts within the portfolio. So today there’s a greater ability to use passive strategies to reflect an active point of view in a portfolio.

Amy Chain: Now, Vanguard has historically been known as an indexer, but we also have quite a bit of experience as an active manager as well. Jeff, talk to us about some of the potential benefits of active investing.

Jeff Johnson: Of course. So many investors recognize Vanguard as one of the leading indexers globally. Some investors don’t realize that we have more than 40 years’ experience as an active manager as well. And for those investors who prefer active management, we believe that there can be room in a portfolio, to the extent that it’s a low-cost product. The benefits for investors, and the reason some investors have preferred active management, is because they’re drawn to the opportunity of outperformance. Experiencing 50 basis points or 100 basis points of outperformance over time can significantly improve investors’ odds of achieving their investment objective over time.

Walter Lenhard: Yeah, in my mind, the industry is really polarized: You’ve got active on one end of the spectrum, you’ve got passive on the other end of the spectrum. And the reason it’s so polarized is there are benefits to both sides. So from the indexing side, you’ve got the low cost, diversification, risk control; yet on the active side, you’ve got the potential to outperform the benchmark.

Brian Wimmer: One of the interesting things about—you mentioned that the polarization of the industry is at Vanguard we really believe that that polarization is overdone. There’s often this talk of active versus passive, and I think that’s overplayed. People focus too much on the differences between active [and passive] because when you look across the industry, active tends to be much more expensive and passive tends to be much lower cost. But when you talk above Vanguard active being able to get high-quality active strategies at a low cost—as well as what we’ve talked about as being very successful index products—it becomes a much more interesting conversation about, “How do I think about the relative tradeoffs,” rather than this active-versus-passive mentality that a lot of the industry has fallen into.

Amy Chain: Now you all speak with a lot of clients from around the globe. Talk to me about some of the trends you’re hearing from these clients.

Walter Lenhard: A trend that I’m seeing out there is investors are moving towards an aggregate solution. So they’re putting a core portion of their portfolio in a low-cost, diversified, large-cap, mid-cap, small-cap combination, and then they’re layering on top of it either actively managed products, or if they believe strongly in indexing, they’re utilizing index products to get a tilt on their portfolio—either leaning towards small caps, or leaning towards emerging markets.

Jeff Johnson: One of the trends that I hear quite a bit of from clients is [shown in their questions], “When should I be more active in my portfolio, based on where we are in the market cycle?” and “Where should I be more active in the portfolio?” [They’re] thinking about certain asset classes that may be less efficient, or more easily identifiable, where we can add value over time. And while it’s true that there might be higher degrees of dispersion in certain asset classes—I think [that] small caps or emerging markets [might be] two commonly cited examples—at Vanguard we believe that the more important question to ask is, With whom am I going active?” We think that it’s really most important to focus on the manager and their ability to add value consistently over time through a disciplined process and [an] experienced and deep investment team.

Amy Chain: On that note, I’ll say thank you all for joining us today, and I’ll say thank you for watching. More about Vanguard’s perspective on active/passive combinations in a portfolio is available on our website.

Important information
Please remember that all investments involve some risk. 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.
Diversification does not ensure a profit or protect against a loss.
All investing is subject to risk, including possible loss of principal.
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