(PUB) Investing 2015

formed and generally zig-zagged for years. After the merger I mentioned earlier (note the big jump in assets in early 2014), U.S. Growth zagged more than zigged, and only about a year ago was this amalgam of five management teams and 10 individual portfolio man- agers able to pull off a consistent string of better-than-bogey months. Recently, however, that run may have been bro- ken yet again. We’ll have to wait to see what happens. The reborn fund has also been erratic in its performance against other Vanguard large-growth funds, except for Morgan Growth , a sad tale unto itself. As you can see in the second chart on page 13, the most erratic perfor- mance has been against PRIMECAP and Capital Opportunity , both of which tend to move to the beat of their own savvy drummers. On average, the correlation between U.S. Growth and PRIMECAP, for instance, over rolling three-year periods has been about 85%, versus amuch higher 96%and 97%aver- age against Growth Index and Morgan Growth, respectively. Correlations are even lower against Capital Opportunity. Yes, over the five years pictured here, U.S. Growth did slightly outper- form, gaining an annualized 15.3% compared to PRIMECAP’s 14.5%. But this represents a single five-year period, and as is clear, there are plenty of short time frames when U.S. Growth under- performed. In fact, looking at every rolling 12-month period since U.S. Growth came under new management, the fund has averaged a 16.3% return, which lags PRIMECAP’s 17.1% aver- age. Hence, I would still go with the team I know rather than the five I am still getting used to. U.S. Growth simply isn’t that dif- ferent from the bulk of Vanguard’s other large-cap growth funds. Take a look at the table at the top of the page. While its portfolio has fewer stocks than the index funds, its allocation to top holdings is on par with all of its siblings except for Capital Opportunity and PRIMECAP. And look at the top holdings for these funds. Apple, Google and Facebook dominate. But the PRIMECAP Management team’s >

PRIMECAP Is the Outlier U.S. Growth

Capital Opportunity

Growth Index

Morgan Growth PRIMECAP

Social Index

No. of stocks

162 28%

137

370

332

128

405

Top-10 allocation Top sectors Information Tech. Consumer Disc.

36% 27% 22% 44% 24%

34% 21% 19%

31% 24% 32% 33% 22%

11% 22% 23%

9% 12%

Health Care Financials Industrials

35% 14% 20% 30% 20%

9% 6% 6%

3% 13% 6%

6% 25%

17% 12% 9% 16%

6%

Consumer Staples

0% 10% 6%

1% 11%

Google

Biogen

Apple Apple

Biogen Eli Lilly

Apple Google

Top 5 stocks

MasterCard

Amgen Google Google Eli Lilly Facebook Amazon

Apple Amgen Microsoft Visa BioMarin Pharma Amazon Facebook Adobe Syst. Wells Fargo Facebook Southwest Air. Coca-Cola Visa Google J & J

Data as of 9/30/15.

Are 10 Heads Better Than Seven? WHEN U.S. GROWTH ABSORBED the assets of the failing Growth Equity , it also absorbed that fund’s management teams. That’s why there are now five different firms and 10 (count ’em, 10!) different portfolio managers running the fund. But Growth Annuity , the virtual clone of U.S. Growth wrapped in Vanguard’s variable annuity cloth, didn’t expand its roster, since it wasn’t involved in absorbing Growth Equity, so that portfolio remains under the control of three manage- ment teams of seven portfolio managers. Does it make a difference?

U.S. Growth and Growth Annuity Are Similar

Almost none. Take a look at the relative per- formance chart to the right. Since the February 2014 merger, the fund and the annuity have essentially tracked one another with small month-to-month variations. (Note that the scale on the chart is extremely tight.) Yes, it’s been less than two years, but the additional two management teams on U.S. Growth don’t seem to have added any value, nor have they taken much away, either. I could argue that the higher expense ratio on the annuity should give U.S. Growth the advantage, and so the line in the graph should be on a fairly consistent upward slope if the

1.010

Rising line = U.S. Growth outperforms

1.005

1.000

0.995

0.990

2/14

4/14

6/14

8/14

2/15

4/15

6/15

8/15

10/14

12/14

10/15

two sets of teams were essentially equal in overall stock-picking skill. The fact that the team of 10 isn’t regularly outpacing the team of seven could mean that adding more managers and more stocks to the portfolio (162 for U.S. Growth at the end of Q3 versus 115 for the annuity) doesn’t add value. But it’s early days, so let’s see what happens down the road. In the meantime, if you’re an annuity investor, you have a much better growth option in the PRIMECAP Management-run Capital Growth Annuity anyway, so you really don’t have to bother with Growth Annuity.

in the right direction. But under its plethora of managers, the fund doesn’t look that different from its index com- petitors. You can do better, and our allocations to the PRIMECAP team, no matter which fund you own, have been the right call to make. n

top holdings are quite different. Clearly we know who the outlier is and why PRIMECAP Management has, over time, outpaced all its competitors. As I said, I’m going to raise my assessment of U.S. Growth one notch to recognize that the fund is moving

14 • Fund Family Shareholder Association

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