The Cult of the Vanguard Investor

[Scanner]

Again. . .I feel I am faced with a dose of reality.

10 years: 5.83%. Those are the years 1997 to 2007

15 years: 10.01% Those are the years 1992 to 2007.

Here we are in 2008. . .what lies ahead?

Are we going to have enough of a bull run in the next five years to give my wife at least the same return as the 15 years prior? I am not sure what kind of bull runs would be needed but I think there's a lot of pressure on the S & P 500 the next 5 years to have it equal the years 1992 to 1997.

I am wondering if we would be better off in a sector fund and not in large caps at all, given the dismal return she has experienced. (We started investing about 1998 so that 10 year return. . .golly gee willickers. . .that's us. . .we haven't been around "since inception").

Again, it's all about being rewarded for risk taken.

Someone said, "Yeah but Scanner. . .Janus took risk that the respective index didn't take."

Well yes, I expect them to and I was rewarded for the risk taken.

I am not sure we have been rewarded for the market and principal risk we have taken.

Maybe this is why Morningstar currently has a 3 star rating on Vanguard S & P 500. . .at least they aren't in the cult, or appear to be.

(Broken Arrow. . .I respect all of you too. . .I just post these threads not to jab anyone, just stimulate discussion - I am actually planning to buy Vanguard's 529 in NV, LOL. . .so I'll be taking my vows here shortly in your group marriage here, LOL)

[disneysteve]

Scanner, you seem to be forgetting about asset allocation. No investor should have his whole portfolio in an S&P index fund. No invester should have his whole portfolio in Janus Overseas Fund.

Here are the performance numbers for one of my funds (not a Vanguard Fund):
5 years: 20.28%
10 years: 11.1%
Inception (1991): 14.0%

Sounds pretty darn good, right? Maybe something everyone should rush out and buy. What if I tell you it is a real estate fund? Past performance is still impressive, but is it really where you'd want to have a lot of your money going forward right now? Probably not.

The economy goes through cycles. Sometimes large cap domestics outperform, other times internationals are on top, or tech stocks or real estate trusts or small caps. That's why there is no perfect investment and we all need to hold a diverse portfolio.

[Scanner]

Sounds pretty darn good, right? Maybe something everyone should rush out and buy. What if I tell you it is a real estate fund? Past performance is still impressive, but is it really where you'd want to have a lot of your money going forward right now? Probably not.

The economy goes through cycles. Sometimes large cap domestics outperform, other times internationals are on top, or tech stocks or real estate trusts or small caps. That's why there is no perfect investment and we all need to hold a diverse portfolio.

Ah, but you see. . .you kind of contradict yourself there. You are saying, "Be diverse. . .but be aware of what the future may hold."

Maybe I'll ask the wife if she thinks we should ditch large caps in our portfolio altogether - a portfolio entirely devoid of large caps. . .that's what we'll be.

Then when Money magazine does an article on us. . .they'll scratch their heads because they never heard of such of thing

[disneysteve]

Ah, but you see. . .you kind of contradict yourself there. You are saying, "Be diverse. . .but be aware of what the future may hold."

I don't think that's a contradiction at all. The whole reason to be diversified is because we don't know what the future holds. I've had stetches where my small cap fund blew everything out of the water. It was up 70% one year - I made a killing. A couple of years ago, it was the real estate fund that was on fire. This year, who knows? Maybe it will be my international investments that come out on top. Since we don't know what the future holds, you need to have your assets spread out to take advantage of whatever trends develop.

[Broken Arrow]

Just a quick word about Morningstar's ratings. It's not surprising to me that an S&P 500 index fund would garner only 3 out of 5. It is, after all, only tracking the market. In fact, I would be really surprised if it gets anything else.

Instead, the ratings are really meant for actively managed funds. It's an easy way to look at a piece of the puzzle, but it doesn't represent the full picture.

[humandraydel]

Someone said, "Yeah but Scanner. . .Janus took risk that the respective index didn't take."

Well yes, I expect them to and I was rewarded for the risk taken.

That's fine, but you completely missed the point. Most of the return generated by a fund is from the underlying asset class and NOT by fund manager/stock selection. You can generate the same return with less risk using an index fund!


Vanguard Emerging Markets:
5-yr: 32.93%
10-yr: 14.56%

Your Janus Fund:
5-yr: 32.28%
10-yr: 14.45%

[disneysteve]

You can generate the same return with less risk using an index fund!

Not only that, but the index fund will also be more tax efficient since there is less portfolio turnover which generates less in capital gains. If you are investing in a taxable account, that can make a huge difference to your real return.

[Aleta]

That is why I like the Target Retirement Funds with Vanguard. They are all indexed.

[Scanner]

How is an emerging market fund (index or non-index) less risky than a Vanilla International Fund?

For that kind of risk, I would want a 20% return over time.

Can't you see what I am driving at (yes, it's more an essay against large caps vs. Vanguard/Indexing)?

My wife risked her retirement for the last 10 years in Blue Chips and didn't even get a 6% return. I still hold to my observation at the beginning - she could have bought CD's and kept it in cash for that amount.

Now. . .some of you are saying, "Just you wait. . .just a little longer Scanner. . . til it hits 15 years."

My reply to that is, I am not sure the next 5 years look to be as promising as the years from 1992 to 1997 to boost that paltry 5.8% up.

For the risk(s) she incurred (market risk, minor principal risk), I'd be disappointed if I were her too. She has barely beat inflation.

But I understand the slavish devotion to Large Caps.

Actually, she had her money in this:

T. Rowe Price

So, she appears to have gotten 6.17%. Not great for 10 years.

It appears she beat the index but only in the last 6 months. . .I think what JimOhio saying about managed funds being good during downtimes definitely has some truth.

[sweeps]

You can generate the same return with less risk using an index fund!

While I'm a big supporter of index funds, this point is not necessarily true. If a particular index fund has a beta of 1, a managed fund could easily have a beta smaller than 1 if the stocks are chosen carefully (or weighted differently).

[disneysteve]

My wife risked her retirement for the last 10 years in Blue Chips and didn't even get a 6% return.

Is that actually true? If this is an account that she has been contributing to on an ongoing basis, her actual return is probably higher than the 10-year average. As I noted earlier, the 5-year average annual return for VFINX was 11.89%. So money that has only been in the account for 5 years has actually grown nearly 12% per year.

Remember, those average annual return figures are somewhat meaningless for all of us who invest over time, which describes most 401k investors, many IRA investors, etc.

[humandraydel]

How is an emerging market fund (index or non-index) less risky than a Vanilla International Fund?

Wow. Just wow. The fact that you would even call that Janus fund a "Vanilla International Fund" just proves my point - as well as the fact that I probably shouldn't even bother responding. But alas, I can't resist. Let's look at a few facts:

Your Janus Fund:

Total Number of Stocks: 105
Top 10 stocks as percent of portfolio: 37.91%
Country Weightings:
Brazil - 13%
Pacific Rim - 32.96%
Other - 30.61%
Europe - 21.51%

Top 10 holdings:
Samsung Electronics Company, Ltd. - 5.34%
Li & Fung, Ltd. - 4.83%
Reliance Industries, Ltd. - 4.78%
Sharp Corp. - 4.69%
Potash Corporation of Saskatchewan, Inc. - 3.66%
Taiwan Semiconductor Manufacturing Company, Ltd. - 3.66%
Bunge, Ltd. - 3.20%
Sony Corp. - 2.71%
Amdocs, Ltd. (U.S. Shares) - 2.63%
China Overseas Land & Investment, Ltd. - 2.41%


Vanguard Emerging Markets Index:

Total Number of Stocks: 949
Top 10 stocks as percent of portfolio: 17.8%
Country Weightings:
Brazil - 14%
Korea, China, Taiwan (aka Pacific Rim?) - 36.3%
Russia, India, South Africa, Mexico, Israel (aka other?) - 32.3%

Top 10 holdings:

1 OAO Gazprom ADR
2 China Mobile (Hong Kong) Ltd.
3 Petroleo Brasileiro SA Pfd.
4 Samsung Electronics Co., Ltd.
5 America Movil SA de CV
6 Petroleo Brasileiro SA
7 Reliance Industries Ltd.
8 Companhia Vale do Rio Doce Pfd. Class A
9 Teva Pharmaceutical Industries Ltd.
10 Taiwan Semiconductor Manufacturing Co., Ltd.



Based on these characteristics, I would say Vanguard Emerging Market Index is less risky. It owns more stocks and has 20% less assets in the top 10 stocks. Nevermind the fact that it is cheaper, more tax efficient, and more transparent.

[Scanner]

Humandrydel,

Okay, maybe I am misinformed.

Here is your cult's Total International:

https://personal.vanguard.com/us/funds/holdings?FundId=0113&FundIntExt=INT

around 55% in Europe. Admittedly, the Janus team only put 23% in Europe.

The Emerging Market had nothing in Europe (as it shouldn't - I would think Europe a mature market in most spots)

Yes, I can see the similarities (the Brazil percentage jumps out) - I know at one time Janus did have a lot more of a position in Europe but they reduced it over time for whatever reason.

I am not sure the funds are comparable (Janus seems more broad) the holding in Brazil is nearly the same.

Even though the funds are apples and hedgeapples (cousins). . .I will concede Vanguard got the same return with 900+ stocks whereas I earned the same return with 105 stocks (more risk).

I don't know. . .I am not sure you have made a case for indexing in the field of international. How do we know foreign markets are efficient?

Why 55% Europe, 17% emerging markets, and 25% Pacific rim? Why not 80/10/10 or 33/33/33? Is this all capitated out?

[scfr]

Scanner - Sorry, but I'm a bit lost ... What exactly is your beef? Is it with Money magazine's recommendations? Is it with people who are satisified with their investments with Vanguard? Or something else?

[meaghanchan]

I don't know. . .I am not sure you have made a case for indexing in the field of international. How do we know foreign markets are efficient?

I read a study a couple years ago (which now, of course, I can't find) that showed that index foriegn funds actually beat actively managed foreign funds over the time period they studied.

Here is an article on InvestorsGuide.com, which talks about the idea that active management must provide value in asset classes like small caps and international:

Indexing works well in all asset classes. A key advantage of the passive approach is low management fees, low turnover costs and greater tax efficiencies. In every market, all stocks must be owned by some investor. There is no such thing as a stock not already owned by someone. Active investors, as a group, must by definition underperform a strategy that passively holds a market portfolio of stocks, since active investors incur greater transaction costs. The reduced liquidity of small companies or emerging country stocks incurs higher transaction costs, making it even more difficult to outperform a passive strategy.

For example, for the 15 years ending April 2006, a blend of small cap indices/funds beat every actively managed small cap fund by an average 6.30% annualized. For ten years ending April 2006, a blend of emerging markets indices/funds beat every actively managed emerging markets fund by an average of 5.63% annualized. (We�ve selected the last ten years for emerging markets funds because there were so few emerging markets funds over the full 15-year period.)

Janus choosing to add more risk to their fund to juice returns (moving from Europe into Brazil, for example) is no different from bond managers who tried to juice their yields by investing in mortgage-backed securities. Sometimes the risk doesn't show up; sometimes it does. If the 'vanguard-cult' index investor wanted to invest in a vanilla foreign fund, they might invest in Vanguard's Total International Index. If they wanted to invest in an emerging markets fund, they could invest in Vanguard's emerging markets index. But in both cases they would know what they owned. At one point you may have owned a 'vanilla' foreign fund, but now it's pretty hard to make the case that the Janus fund isn't an emerging markets fund.