Vanguard: The UnCompany

All companies need to make money.

To do that, some offer premium products at a premium price (I’m looking at you, Apple.)

But others offer suitable products at a reasonable cost.

The Vanguard Group, an investment firm, is one of the most well-known, and largest issuers of mutual funds and ETFs in the world. It is second - only to Blackrock - in AUM (assets under management) at around $8 trillion dollars.

Yup - trillion.

But the interesting point is ownership. Blackrock is a public company, owned by its shareholders who can buy shares of the company on the open market. At Vanguard, the company is owned by its funds, which in turn, are owned by its shareholders.

Why does this matter? (We’ll get to that.)

The Birth of Low-Cost Index Funds

Vanguard was founded around 1974 by John Bogle, who served as president of another firm prior to Vanguard. He aimed for providing low-cost investment products that investors could access without the need for a broker or their high expenses.

He created the first fund, the First Index Investment Trust in 1976, now known as the Vanguard 500 Index Fund (VFIAX). The fund tracks the S&P 500 Index, which is a broad-based diversified fund that tracks the largest 500 US companies.

Because it tracks an index, the manager of the fund simply needs to match the weightings and allocation of the fund to the index. This inherently is cheaper than trying to beat the index (“active” funds).

So, what’s the cost and why does it matter to me?

Bogle set out to provide transparency for the retail investor. And since then, he set the standard for mutual fund management fees.

Around 2018, the industry average expense ratio was above 0.50% while Vanguard was 0.10%. Today, the two lines are lower, but the difference remains.

Let’s say you invest $50,000, and assume a 6% annual return. An industry-average expense ratio of 0.49%, over 30 years, will likely cost around $37,250. Vanguard’s 0.09% expense ratio will cost you around $7,225. This means investing in the same style fund, with the same risk attributes and returns, will cost you about $30,000 LESS at Vanguard. Now that’s some serious savings.

And this was Bogle’s goal from the start.

Of course, the industry caught on to this and started lowering their fees as well. Most large investment firms now offer expense ratios that compete with Vanguard. For the average retail investor, we have John Bogle to thank.

Ok - I save money. But what about the quality of investments?

That’s easy. Since these funds track an index, the performance of the fund relies solely on how well the index performs. It may seem boring and simple. But what attracts investors is the diversification you receive. You have exposure to the stock of hundreds of companies, all for a low fee.

But with anything, there are disadvantages, and it’s important to review them.

• Lack of reactive ability: Because you're investing in a fund that mirrors an index, you cannot act on undervalued or overvalued stocks within the fund.

• Downside risk for short-term investors: Investors who don't invest in index funds for the long term might see decreased returns or even losses. Most index funds are best for long-term buy-and-hold strategies.

• Limits strategy exposure: Index fund investing tends to limit the investment strategies you're exposed to. Your strategies are limited to that of the fund and index managers unless you have included the index fund as part of your overall strategy.

Today, the Vanguard Group outshines most other firms. Its ownership structure allows it to avoid possible conflicts of interest. It charges absurdly-low fees, allowing investors to keep more of their money. And sometimes, those cheap index funds even beat the active-managed funds of their competitors.

For this week’s newsletter, it’s even more appropriate to sign off in our usual way.

Save On,

Chris