(PUB) Investing 2016

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come, but also limit the potential for good ones. So why would Vanguard be happy with this tradeoff? Well, it all comes back to Vanguard’s low-cost advan- tage. Remember, the logic behind an index fund is that after fees, you’ll come out ahead of the average actively managed competitor, because in aggre- gate, the active funds are the market. Vanguard’s low costs apply to its active funds as well as its index funds. So if Vanguard’s multimanager active funds just act like the index, then they too will come out “above average” after fees. Consider that Explorer has out- performed a third of its peers over the last five years but, as the chart on page 4 shows, has clearly lagged its index. 8. If you look to Vanguard for advice, they won’t suggest their best funds— and may even tell you to sell them if you already own them. Vanguard has made an enormous push to be your personal invest- ment manager of choice through its Vanguard Personal Advisor Services (PAS) option, a pseudo-robo adviser. Despite having “personal” in the name, if you pop the hood on any PAS portfo- lio, chances are it’ll look a lot like one of the Target Retirement or STAR LifeStrategy funds. The four “core” total market index funds will dominate the portfolio. What’s personal about that? Or consider Vanguard’s “Select” funds. If you expected to see the likes of Don Kilbride, Jean Hynes or the PRIMECAP Management team among Vanguard’s top picks, you’re in for a disappointment. Which actively managed U.S. stocks make the cut? Explorer, Morgan Growth and Windsor II —all of which have at least four different firms running a piece of the portfolio. Remember what I said about larding up funds with too many managers? What do you think happens when you lard up an entire portfolio of funds with too many managers? And I don’t know how anyone look- ing at the funds side by side selects Balanced Index over Wellington —

adding undue risk. A couple of years back, Jack Bogle echoed our stance in an interview with ETF.com. “I go to basically short-term and intermediate-term municipals in my personal account, and, in my retirement plan account, which is my largest asset here, I use intermediate-term corporate and short-term corporate debt,” he said. Why does Bogle do this? “The bond index is much more heav- ily weighted in government debt—72 percent—than most investors need to be.” We share his concern. Treasury bonds are the most sensitive to changes in inter- est rates. As they come to represent more and more of Total Bond Market’s total assets, the fund’s interest-rate risk creeps up. But no one’s warning you about that except us, and now Bogle as well. It’s not as if Vanguard lacks other options; Intermediate-Term Investment-Grade , to name just one, makes a great high-quality core bond holding without the heavy slug of Treasurys. Time will tell, but Vanguard’s freshly launched Core Bond may be another in-house actively managed bond fund that beats Total Bond Market. Still, Vanguard’s belief in indexing means that it keeps pushing investors to “set it and forget it” with Total Bond Market Index despite the risks. Vanguard’s operations are running with roughly the same full-time head count it had in the early 2000s, when assets were a quarter of today’s level. In recent years, Vanguard has restruc- tured its Partnership Plan to reduce payouts to workers in many positions, restructured job categories, transitioned salaried employees to hourly pay, out- sourced information tech jobs and relied on temporary contract workers for customer service. All those efforts help keep a lid on costs, but they also reveal an ugly truth. When you cut costs to the bone, something has to give. Recent issues surrounding transitioning clients from fund to brokerage accounts and miscues on handling fund distributions are just the latest in a long list of service > 10. Vanguard’s low-cost ethos often leads to inferior service.

Which Fund Would You Select?

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Wellington vs. Balanced Index Rising line = Wellington outperforms

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see the relative performance chart above—but that’s just what Vanguard has done time and again for its clients. This from the firm that supposedly knows these funds the best. 9. Vanguard pushes investors to buy Total Bond Market Index, but even Jack Bogle thinks it’s too risky. Total Bond Market , with $250 billion in assets, is the largest bond fund in the world. Broadly diversi- fied, it serves as a one-stop shop for bond exposure. It also plays a lead- ing role in balanced portfolios run by Vanguard, in everything from the Target Retirement series and STAR LifeStrategy funds to portfolios man- aged by Vanguard Personal Advisor Services. For years, Dan and I have been tell- ing you that the overweight to Treasurys in this index fund was bad for your financial health, and a good dose of corporate and municipal bonds would improve your performance without

Bogle’s Worry (Ours, Too)

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U.S. Government Bonds Mortgage-Backed Bonds

Corporate Bonds Municipal Bonds

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