EVERY fund provider claims to be different, but unlike most, Vanguard really is. Founded in 1975 by legendary investor Jack Bogle, Vanguard’s investment philosophy is ingrained in its unique structure. As Tom Rampulla, the UK’s managing director says: “We are the only ‘mutual’ mutual fund company in the world.” Vanguard’s investors effectively own the company. Its size permits Vanguard to be an incredibly low cost provider – for example, its FTSE UK Equity index fund’s total expense ratio (TER) is just 0.15 per cent, its US Equity index fund is 0.20 per cent and its Emerging Markets Stock index fund 0.55 per cent.
VIVA LA REVOLUTION
Most independent financial advisers (IFAs) are enthusiastic about Vanguard’s presence in the UK. Adrian Pickersgill of Chatfield Private Client says prior to its June 2009 UK launch, he had “been waiting many years for Vanguard to reach the shores of the UK investment world, so that it could shake up the generally poor performing, but always over charging, active fund managers.” Vanguard now forms the core of almost all Chatfield’s portfolios. Jason Butler of Bloomsbury Financial Planning believes Vanguard is a real force for good in financial services in general and investing in particular. He says “for far too long investors have been paying the price of a Picasso for what is painting by numbers.” Robert Forbes of Plutus Wealth Management appreciates Vanguard’s transparency. He says with many investment funds, the stamp duty cost is hidden within the overall fund charge, but he notes Vanguard’s UK equity tracker reveals the 0.5 per cent stamp duty charge at the outset.
SMELL THE COFFEE
The amount you shell out on management fees has a very strong connection to the returns you are likely to see on your fund. Morningstar’s director of research for Europe and Asia Chris Traulsen describes fees as “negative alpha that compounds.” He says it tends to overwhelm other factors. As Rampulla says: “It’s difficult to pick an active manager who can outperform over the long-term. That is not to say that there are not active managers that don’t – there are. It’s just hard to find them.”
Research undertaken last year on US mutual funds by Morningstar shows how important costs are. The results were unequivocal (see table, right): “If there’s anything in the whole world of mutual funds that you can take to the bank, it’s that expense ratios help you make a better decision. In every single time period and data point tested, low-cost funds beat high-cost funds,” notes Russell Kinnel, Morningstar’s director of mutual fund research. “Expense ratios are strong predictors of performance”, he adds, “in every asset class over every time period, the cheapest quintile produced higher total returns than the most expensive quintile.” Factoring in the success ratio – which accounts for survivorship bias – compounds the point, because high-cost funds are much more likely to have poor performance and therefore be liquidated or merged away. Kinnel thinks: “Investors should make expense ratios a primary test in fund selection. They are still the most dependable predictor of performance”, he says. “Start by focusing on funds in the cheapest or two cheapest quintiles, and you’ll be on the path to success.”
TIMES ARE CHANGING
The retail distribution review (RDR), which will come into force on 31 December 2012, should benefit Vanguard. The new regulations include the banning of trailing fees (commissions paid to IFAs for selling their product) in an attempt to make investing more transparent. Andrew Swallow of Swallow Financial Planning thinks “RDR will have a major impact on charges within the investment market and companies.” He says “companies like iShares, Vanguard and Dimensional are already leading the field in this regard.” Jaskarn Pawar of Investor Profile thinks “Vanguard have come to the UK at a good time, as clients are questioning value for money from advisers, and advisers are questioning value for money from providers.”
The only fly in the ointment is Vanguard’s “relatively small range of funds and the scope of the fund,” says Forbes. “There is no UK FTSE 100 fund but there is a FTSE All Share fund.” At a Vanguard seminar for IFAs I attended earlier this year, I noted the same question being asked over and over again: “What will Vanguard provide next in the UK?” IFAs have a voracious appetite for Vanguard’s offerings. Rampulla hints that ETFs and low cost actively managed funds could hit UK shores in the future.
Underperforming funds are a dime a dozen and typically cost an awful lot more. But a few providers are cutting against the grain, offering transparent and low cost investment options. Vanguard is at the leading edge of this revolution.