Vanguard Should Have Passive Funds, Without Indexes

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lazyday
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Vanguard Should Have Passive Funds, Without Indexes

Post by lazyday »

In some asset classes, such as small cap international and small cap US, using an index to manage a fund hurts.

(1)

Indexes force trading. Trading is expensive in some asset classes. This problem is reduced with careful management, well designed indexes, and the ETF share class, but still exists, and probably will make some asset classes impractical for Vanguard, perhaps including microcap US or international, or deep value small international.

(2)

More controversially, there are academically demonstrated reasons to avoid certain stocks, and favor others, rather than invest purely passively. Such strategies could be added to indexes, but could add prohibitive trading costs. WIth funds that did not adhere to indexes, trading costs might not be too large for some stragegies. An example might be avoiding companies that are in bankruptcy.
This second reason is not required to consider a fund that doesn’t use an index.

Vanguard could try a single test fund, with a creative name that explains the difference succinctly.
larryswedroe wrote:it's Vanguard's choice to stick with simple index funds because they choose to do so---now that comes with a price to it's investors in tax inefficiencies, lower returns and higher trading costs. They clearly could choose to offer products that seek to minimize/eliminate the negatives of indexing. But they have chosen not to, There are plenty of funds that don't require advisors that also use strategies that improve on pure indexing based on popular retail indices. DFA on other hand by not making their funds available to retail investors doesn't have to deal with individual investors and explaining to them why their funds have massive tracking errors in some years--no 800 lines to man and manage, and thus lot lower expenses than they would have if ran a retail fund. In other words it's a business decision by both firms.
Vanguard has investor education pamphlets on many topics. This one could be linked from the fund page.
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SSSS
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Re: Vanguard Should Have Passive Funds, Without Indexes

Post by SSSS »

Wouldn't that be the same thing as a quant fund?

http://en.wikipedia.org/wiki/Quantitative_fund

Vanguard has them. They closed some of them in 2011:

http://www.marketwatch.com/story/vangua ... 2011-03-06
Structured Large-Cap Growth has an average annualized return since its mid-90s inception of 0.6%, compared to 10.8% for the Vanguard Index 500 Fund VFINX -0.50% over the same period. Structured Large-Cap Value is even worse, with an annualized loss of just over 2% since it opened.

Meanwhile, Vanguard just filed the paperwork to cease operations on the value fund, but it appears to have shut the doors last fall, since the information trail stops last November. Since then, the fund has no reportable assets (at last count it held about $54 million).

Vanguard isn’t giving up on quant funds entirely. Vanguard Strategic Equity VSEQX -0.74% has had some good years (so much so that I once suggested my father buy it), but has been mediocre for a decade and a severe laggard for the last five years.

Vanguard has two other quant funds from its mid-90s move; neither Structured Broad Market VSBMX -0.47% nor Structured Large-Cap Equity VSLIX -0.44% has outperformed its benchmark index since inception.
PaleHorse
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Re: Vanguard Should Have Passive Funds, Without Indexes

Post by PaleHorse »

I'm confused. If someone (I would assume the fund manager) is screening which stocks to include in the fund, isn't this by definition NOT a passive fund any longer?
gt4715b
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Re: Vanguard Should Have Passive Funds, Without Indexes

Post by gt4715b »

You're really saying "blind adherence to an index has costs" not "using an index hurts".

I don't think trading costs and liquidity costs are an issues except for microcaps (>99% of market cap space). DFA is heavily invest in the microcap area both in the US and internationally. I don't know that there is room for a big player like Vanguard to open a microcap fund. But it's really not needed for an investor. Also, the index companies are modifying their indices to mitigate some of the trading issues like frontrunning and turnover.

These concerns shouldn't prohibit Vanguard from opening style funds internationally, like international small cap value.

Sounds like your philosophy is aligned with DFA funds. Get an advisor and you can have access to the funds.
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G-Money
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Re: Vanguard Should Have Passive Funds, Without Indexes

Post by G-Money »

So what you're saying is that Vanguard should be both Vanguard and DFA.

I've never understood the thinking that Vanguard should be all things to all people. Vanguard is a store. If you like some of the products it offers, you should buy them. If you don't like some of its products, but prefer the products of DFA instead, you should buy those. You can still be a Boglehead even if all if your investments are not at Vanguard.

And in any event, I reject your premises. There is very little forced trading in Vanguard's indexes due to the construction of their indexes. I'm not sure Vanguard has any plans to launch a microcap fund or a deep value fund. And Vanguard has thus far largely avoided the trend of "enhanced indexes," and I have a hard time imagining them wanting to change course anytime soon.
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nisiprius
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Re: Vanguard Should Have Passive Funds, Without Indexes

Post by nisiprius »

I see G-money said about the same thing just before I did... Well, broadly speaking, you seem to be saying "Vanguard should do what DFA does."

I dunno. It seems to me Vanguard is pretty good at what it does and that it should stick to its knitting.

People who have drunk the DFA Kool--I mean, people knowledgable about DFA have said it is fairly difficult for DFA to explain what it does to clients, and that because they do not closely track an index, they have to "train" their advisors and investors not to expect that, and not to interpret departures from the index as reasons to flood in and out of the fund. Thus, DFA takes an approach that involves time and client handholding, an approach which works better with higher-worth investors who are using advisors. The DFA approach comes with low fund expenses, but still, noticeably higher than Vanguard, and it comes with the added expense of the advisor who also provides added value which may or may not be worth that added cost.

I also think it would be difficult, though perhaps not impossible, for Vanguard to explain the seeming near-duplication between "passive but not indexed higher cost funds" and its traditional index funds. I think Vanguard already creates confusion by offering

--both Total International and FTSE All-World Ex-US;
--both LifeStrategy Income and Target Retirement Income and Wellesley Income and Managed Payout Distribution Focus;
--by having Small-Cap Value (VBR) AND Russell 2000 Value (VTWV) AND S&P Small-Cap 600 Value (VIOV) ETFs.

Each one of these choices seems designed to make you procrastinate by evoking "analysis paralysis" trying to figure out which the best among equals.
Last edited by nisiprius on Fri May 17, 2013 11:48 am, edited 2 times in total.
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Default User BR
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Re: Vanguard Should Have Passive Funds, Without Indexes

Post by Default User BR »

G-Money wrote:I've never understood the thinking that Vanguard should be all things to all people. Vanguard is a store. If you like some of the products it offers, you should buy them. If you don't like some of its products, but prefer the products of DFA instead, you should buy those. You can still be a Boglehead even if all if your investments are not at Vanguard.
But DFA isn't a store you can go to instead of Vanguard. It's more like a club you have to join. Like Costco or something.


Brian
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kenyan
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Re: Vanguard Should Have Passive Funds, Without Indexes

Post by kenyan »

Like a Costco that will charge you larger and larger membership fees depending upon how wealthy you are.
Retirement investing is a marathon.
mullery
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Re: Vanguard Should Have Passive Funds, Without Indexes

Post by mullery »

I think the OP poses an interesting question. I think a company the size of Vanguard could produce a set of funds similar to DFA in that they don't track an index per-se, are very low-cost, and don't require an advisor to sell them.

Let me re-phrase this in the form of a question: "Would you switch to DFA if their expense ratios were more comparable to Vanguard and they sold their funds directly without needing an advisor"?
Silence Dogood
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Re: Vanguard Should Have Passive Funds, Without Indexes

Post by Silence Dogood »

Keep it simple.
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G-Money
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Re: Vanguard Should Have Passive Funds, Without Indexes

Post by G-Money »

mullery wrote: I think a company the size of Vanguard could produce a set of funds similar to DFA in that they don't track an index per-se, are very low-cost, and don't require an advisor to sell them.
Vanguard offers many low-cost actively managed funds which do a good job of sticking to their knitting. What OP wants is for Vanguard to offer DFA-like passive quasi/enhanced index funds at Vanguard prices. I tend to doubt this fits within Vanguard's business plan, and nisiprius and others have already explained in more eloquent detail why that might not be realistic, even if Vanguard wanted to do it.
mullery wrote:Let me re-phrase this in the form of a question: "Would you switch to DFA if their expense ratios were more comparable to Vanguard and they sold their funds directly without needing an advisor"?
Very little, if any. I wouldn't send any of my fixed income dollars there. I would keep all my total market equity funds at Vanguard. I would consider using DFA for the tilted portion of my portfolio. So, for me, no more than about 20% of assets. And as little as 0%.
Don't assume I know what I'm talking about.
Topic Author
lazyday
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Re: Vanguard Should Have Passive Funds, Without Indexes

Post by lazyday »

gt4715b, The research says even largecap international is quite expensive to trade.

SSSS, Not sure about Vanguard’s, but I view most quant as OP-(2) on steroids. Overtrading. Often lacking (1)--hugging an index.
I’m talking about a fund that generally only trades when it needs to meet fund flows.
gerrym51
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Re: Vanguard Should Have Passive Funds, Without Indexes

Post by gerrym51 »

vanguard should just give me money :mrgreen:
shersch
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Re: Vanguard Should Have Passive Funds, Without Indexes

Post by shersch »

We all know that cap-weighted indexing has its flaws. Telegraphing the piling on of indexed-assets to BRKA, dropping positions wholesale because they are no longer constituents of the benchmark...all valid, but let us not forget that matching the market less costs still beats the pants off of 85%+ of investors over the long haul.
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