" Has Vanguard Jumped on the Smart-Beta Bandwagon?"

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Taylor Larimore
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" Has Vanguard Jumped on the Smart-Beta Bandwagon?"

Post by Taylor Larimore » Wed Jan 03, 2018 4:40 pm

Bogleheads:

Allan Roth, CPA, CFP, is one of the most respected fee-only advisors that I know. He is also a regular contributor to the "Financial Planning" newsletter for independent advisors. These are quotes from what he told them in a recent article about Vanguard's new factor-based ETFs:
"These are technically active funds rather than index funds."

"All funds will have a 0.13% annual expense ratio with the exception of the multifactor funds, which will have a 0.18% expense ratio."

"Over the past few years, factor-based investing has generally underperformed the broader market, according to Morningstar."

"Like smart beta funds, I consider these new Vanguard funds to be viable low-cost active strategies. But active investing is a zero-sum game before costs, and some fail. They especially fail when too much money chases the same factors. For years, I’ve been critical of the Vanguard Market Neutral fund (VMNFX) which, according to Morningstar, has delivered a 10-year annualized return of 0.41%, less than the Vanguard Prime Money Market (VMMFX) 10-year annualized return of 0.53%. (Both numbers are as of November 28, 2017.) The fund returned less than cash but with far more volatility, illustrating just how hard it is to beat the market."

"I have no plans to buy or recommend either smart beta or the Vanguard factor funds, even though they are viable active strategies. I’ve found the guarantee that comes with market-cap indexing has a huge psychological advantage. William Sharpe’s simple paper, “The Arithmetic of Active Management,” proves a broad market-cap-weighted portfolio must outperform active portfolios as a whole in the same asset class because of lower costs. Neither smart beta nor the Vanguard factor funds offer this guarantee though, and of course, any equity fund can lose money."

"The urge to beat the market is so strong — I don’t worry about markets becoming inefficient anytime soon."
Vanguard to Launch 6 Factor Based ETFs

Happy New Year!
Taylor
"Simplicity is the master key to financial success." -- Jack Bogle

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Re: " Has Vanguard Jumped on the Smart-Beta Bandwagon?"

Post by azanon » Wed Jan 03, 2018 4:50 pm

That ship - err, Bandwagon - sailed a long time ago. They've had factor funds for longer than I've been alive, and probably before the term (either factor investing or "smart-beta") was coined. U.S. "Growth" fund was launched in 59', for example. Value Index Admiral (a fund specifically designed to index LC Value (factor)), launched in 2000. Growth and Value (tilts) are "factors", and my basic understanding of smart-beta is that it specifically targets the various factor investing strategies.

So they've added 6 more. Ok that's nice.

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Re: " Has Vanguard Jumped on the Smart-Beta Bandwagon?"

Post by lack_ey » Wed Jan 03, 2018 5:45 pm

FWIW Vanguard Market Neutral has done better since they took AXA Rosenburg out of the picture and ran it themselves. For a while there were the two subadvisors. So since 10/13/2010, an annualized return of 2.70% with annualized standard deviation of 4.61%. The only reason why I mention it is because it's managed by the Vanguard Quantitative Equity Group, same as the new factor funds.


As for what Rob Arnott said:
Rob Arnott, CEO of Research Affiliates and sometimes referred to as the “godfather of smart beta,” told me the Vanguard announcement was unsurprising. Vanguard hired Denis Chaves, a top smart beta researcher from Research Affiliates, in 2015. Arnott views the announcement as “good news for investors and for Vanguard,” but doesn’t see Vanguard as a competitor to his firm’s RAFI fundamental funds. Arnott stated that “fundamental indexing breaks the link between price and weighting, but I suspect the Vanguard products will start with cap-weighting.”
We can look at the existing Vanguard UK and Canada funds to get an idea. I'm pretty sure he's not really right in any meaningful sense, unless the US listed funds are significantly different.

I checked the top 10 holdings and weights for the Vanguard Global Value Factor ETF (VVL) in Canada, Vanguard Value Index Fund (VTV), and PowerShares FTSE RAFI U.S. 1000 Portfolio (PRF). The top 10 holdings for the global value factor fund are all US stocks so that works out for these purposes. Unfortunately, the portfolio dates are a bit different, but I think it's still a bit illuminating.

Image

You can clearly see the RAFI fund include growth stocks, just at the fundamentals weightings. The Vanguard factor ETF, for better or worse, doesn't particularly seem like it "will start with cap-weighting" as a base. Or at least, if it's in there, it's not effectively expressed very much at all.

On the other hand, the language used in the different prospectuses for the investment strategies is a bit different, so we will see.

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Re: " Has Vanguard Jumped on the Smart-Beta Bandwagon?"

Post by LadyGeek » Wed Jan 03, 2018 7:16 pm

Taylor Larimore wrote:
Wed Jan 03, 2018 4:40 pm
Allan Roth, CPA, CFP, is one of the most respected fee-only advisors that I know.
He's also a forum member and was on the Experts Panel at the 2017 Bogleheads Conference. See the wiki: Allan Roth

FYI - We covered Vanguard's announcement on the day it was released (November 28, 2017). See: Vanguard to launch US 'smart beta' ETFs - Will this board burn down?
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Re: " Has Vanguard Jumped on the Smart-Beta Bandwagon?"

Post by Allan Roth » Wed Jan 03, 2018 9:46 pm

lack_ey wrote:
Wed Jan 03, 2018 5:45 pm
FWIW Vanguard Market Neutral has done better since they took AXA Rosenburg out of the picture and ran it themselves. For a while there were the two subadvisors. So since 10/13/2010, an annualized return of 2.70% with annualized standard deviation of 4.61%. The only reason why I mention it is because it's managed by the Vanguard Quantitative Equity Group, same as the new factor funds.
I think the world of John Ameriks who manages the group but Vanguard shows a one year return of -4.95% and three year return of 0.95% through 12/31/17. Admittedly, if I had to buy a market neutral fund, I would buy Vanguard's.

https://personal.vanguard.com/us/funds/ ... true#tab=1

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Re: " Has Vanguard Jumped on the Smart-Beta Bandwagon?"

Post by lack_ey » Wed Jan 03, 2018 10:06 pm

Allan Roth wrote:
Wed Jan 03, 2018 9:46 pm
lack_ey wrote:
Wed Jan 03, 2018 5:45 pm
FWIW Vanguard Market Neutral has done better since they took AXA Rosenburg out of the picture and ran it themselves. For a while there were the two subadvisors. So since 10/13/2010, an annualized return of 2.70% with annualized standard deviation of 4.61%. The only reason why I mention it is because it's managed by the Vanguard Quantitative Equity Group, same as the new factor funds.
I think the world of John Ameriks who manages the group but Vanguard shows a one year return of -4.95% and three year return of 0.95% through 12/31/17. Admittedly, if I had to buy a market neutral fund, I would buy Vanguard's.

https://personal.vanguard.com/us/funds/ ... true#tab=1
That's fair enough, definitely. It's a mixed record at best, but I think it is somewhat reasonable to look at performance since the manager change, and short evaluation windows don't tell too much. Stocks or even bonds could be around 0% for a few years or even -5% in a year, when scaled to similar volatility. It's hard to get any returns after costs (including costs of shorting) in that kind of vehicle, being sector and market neutral.

I'm kind of curious what Vanguard has to say after the new funds launch, both in terms of more details about strategy and implementation, as well as how they are selling it. They don't launch that many new funds in general, and they're fairly measured when discussing offerings.


By the way, I thought it was nice that you got a comment from Ben Johnson at Morningstar, Arnott at Research Affiliates, and Ameriks at Vanguard even for a short piece like this. I just noticed it was an article from December, but regardless, good sourcing and writing. Too bad a lot of financial writing out there is a lot worse.

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Re: " Has Vanguard Jumped on the Smart-Beta Bandwagon?"

Post by nisiprius » Wed Jan 03, 2018 10:10 pm

Vanguard wrote:Do I contradict myself?
Very well then I contradict myself,
(I am large, I contain multitudes.)
Oh, well, actually Vanguard didn't write that, it was Walt Whitman. Vanguard is large, though, and does contain a multitude of funds. It doesn't bother me too much. They do follow trends and jump on bandwagons, usually in a pretty ginger, cautious, sensible way. They have what I call their nine "style box funds" (large-cap value, mid-cap growth, small-cap blend, etc.) It hasn't done Vanguard any harm I can see to have them. So now they are going to add six more, for customers who want to go a-fooling-around after strange factors. Eh, OK. I'm not upset that they have stuff like Morgan Growth or Strategic Small-Cap Equity or Telecommunications Services ETF. As long as they keep offering the funds I want and not messing with them, I can look at the others and shrug and say "For those who like this sort of thing, this is the sort of thing they will like."

Of course if they ever offer a cryptocurrency fund, I'm outta there.
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Re: " Has Vanguard Jumped on the Smart-Beta Bandwagon?"

Post by GreatOdinsRaven » Wed Jan 03, 2018 10:25 pm

Allan Roth wrote:
Wed Jan 03, 2018 9:46 pm
lack_ey wrote:
Wed Jan 03, 2018 5:45 pm
FWIW Vanguard Market Neutral has done better since they took AXA Rosenburg out of the picture and ran it themselves. For a while there were the two subadvisors. So since 10/13/2010, an annualized return of 2.70% with annualized standard deviation of 4.61%. The only reason why I mention it is because it's managed by the Vanguard Quantitative Equity Group, same as the new factor funds.
I think the world of John Ameriks who manages the group but Vanguard shows a one year return of -4.95% and three year return of 0.95% through 12/31/17. Admittedly, if I had to buy a market neutral fund, I would buy Vanguard's.

https://personal.vanguard.com/us/funds/ ... true#tab=1
Allan,
I met you standing in line for Jack’s new book at the conference this past year. Really, you’d buy the Vanguard MN fund? Is that because AQR’s QMNIX is closed, because it has a short track record, or another reason? QMNIX seems to have been superior. And, I was glad to see AQR exercise restraint and close it to new investors...

GOR
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Only 1 Vanguard factor fund for investors?

Post by Taylor Larimore » Wed Jan 03, 2018 10:48 pm

Bogleheads:

This is a quote from Vanguard's announcement regarding its new factor funds:
Five single factor funds are designed for financial advisors and institutional investors seeking to achieve specific risk or return objectives through targeted factor exposures: minimum volatility, value, momentum, liquidity, and quality. The sixth ETF and fund will offer a multi-factor approach. Vanguard will employ an active, rules-based quantitative approach in managing the funds, which will also feature the traditional characteristic of all Vanguard funds—low cost.
Only one of the six new factor funds will be be directly available to investors. The five other factor funds are only through advisors. Can you guess why?

Happy New Year!
Taylor
"Simplicity is the master key to financial success." -- Jack Bogle

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Re: Only 1 Vanguard factor fund for investors?

Post by lack_ey » Wed Jan 03, 2018 10:57 pm

Taylor Larimore wrote:
Wed Jan 03, 2018 10:48 pm
Bogleheads:

This is a quote from Vanguard's announcement regarding its new factor funds:
Five single factor funds are designed for financial advisors and institutional investors seeking to achieve specific risk or return objectives through targeted factor exposures: minimum volatility, value, momentum, liquidity, and quality. The sixth ETF and fund will offer a multi-factor approach. Vanguard will employ an active, rules-based quantitative approach in managing the funds, which will also feature the traditional characteristic of all Vanguard funds—low cost.
Only one of the six new factor funds will be be directly available to investors. The five other factor funds are only through advisors. Can you guess why?

Happy New Year!
Taylor
I don't think that's what they're saying at all. It's not that individuals couldn't use the single-factor funds, but that Vanguard doesn't anticipate as much demand from them or doesn't want to emphasize it for them. These aren't the only funds targeted at non-retail clients. For example, Vanguard Extended Duration Treasury (20+ year Treasury zeroes) is an index fund that has no retail mutual fund shares. But individuals can buy the ETF, EDV, if they really want.

Is it even actually possible for a fund manager to restrict who is allowed to trade ETFs? That would seem to require the cooperation of brokerages. It's not like mutual funds, which are distributed through different channels. An ETF is listed on a stock exchange.

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Re: Only 1 Vanguard factor fund for investors?

Post by triceratop » Thu Jan 04, 2018 12:52 am

Taylor Larimore wrote:
Wed Jan 03, 2018 10:48 pm
Bogleheads:

This is a quote from Vanguard's announcement regarding its new factor funds:
Five single factor funds are designed for financial advisors and institutional investors seeking to achieve specific risk or return objectives through targeted factor exposures: minimum volatility, value, momentum, liquidity, and quality. The sixth ETF and fund will offer a multi-factor approach. Vanguard will employ an active, rules-based quantitative approach in managing the funds, which will also feature the traditional characteristic of all Vanguard funds—low cost.
Only one of the six new factor funds will be be directly available to investors. The five other factor funds are only through advisors. Can you guess why?

Happy New Year!
Taylor
No: "designed for" != "available only to"

As mentioned, these are ETFs so can typically be bought by anyone (possibly with a commission).
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Re: Only 1 Vanguard factor fund for investors?

Post by jhfenton » Thu Jan 04, 2018 8:51 am

lack_ey wrote:
Wed Jan 03, 2018 10:57 pm
I don't think that's what they're saying at all. It's not that individuals couldn't use the single-factor funds, but that Vanguard doesn't anticipate as much demand from them or doesn't want to emphasize it for them. These aren't the only funds targeted at non-retail clients. For example, Vanguard Extended Duration Treasury (20+ year Treasury zeroes) is an index fund that has no retail mutual fund shares. But individuals can buy the ETF, EDV, if they really want.

Is it even actually possible for a fund manager to restrict who is allowed to trade ETFs? That would seem to require the cooperation of brokerages. It's not like mutual funds, which are distributed through different channels. An ETF is listed on a stock exchange.
Agreed. I think the Russell and S&P (non-500) index funds are mainly for advisors as well. But that doesn't stop a fair number of us from owning VIOV (Vg S&P 600 Small Cap Value), especially in taxable, where it is more tax-friendly than VBR.

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Re: Only 1 Vanguard factor fund for investors?

Post by GreatOdinsRaven » Thu Jan 04, 2018 9:13 am

jhfenton wrote:
Thu Jan 04, 2018 8:51 am
lack_ey wrote:
Wed Jan 03, 2018 10:57 pm
I don't think that's what they're saying at all. It's not that individuals couldn't use the single-factor funds, but that Vanguard doesn't anticipate as much demand from them or doesn't want to emphasize it for them. These aren't the only funds targeted at non-retail clients. For example, Vanguard Extended Duration Treasury (20+ year Treasury zeroes) is an index fund that has no retail mutual fund shares. But individuals can buy the ETF, EDV, if they really want.

Is it even actually possible for a fund manager to restrict who is allowed to trade ETFs? That would seem to require the cooperation of brokerages. It's not like mutual funds, which are distributed through different channels. An ETF is listed on a stock exchange.
Agreed. I think the Russell and S&P (non-500) index funds are mainly for advisors as well. But that doesn't stop a fair number of us from owning VIOV (Vg S&P 600 Small Cap Value), especially in taxable, where it is more tax-friendly than VBR.
That’s an interesting point about tax efficiency. Can anyone explain why VBR has been less tax efficient than the S&P600 SCV Index (VIOV and IJS)? When did VBR move to a CRSP SCV Index and should we expect it to be more tax efficient now?

DFA’s SCV fund (DFSVX) is included as a comparison...

Post Tax returns per Morningstar:

Image
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Re: Only 1 Vanguard factor fund for investors?

Post by jhfenton » Thu Jan 04, 2018 1:11 pm

GreatOdinsRaven wrote:
Thu Jan 04, 2018 9:13 am
jhfenton wrote:
Thu Jan 04, 2018 8:51 am
Agreed. I think the Russell and S&P (non-500) index funds are mainly for advisors as well. But that doesn't stop a fair number of us from owning VIOV (Vg S&P 600 Small Cap Value), especially in taxable, where it is more tax-friendly than VBR.
That’s an interesting point about tax efficiency. Can anyone explain why VBR has been less tax efficient than the S&P600 SCV Index (VIOV and IJS)? When did VBR move to a CRSP SCV Index and should we expect it to be more tax efficient now?

DFA’s SCV fund (DFSVX) is included as a comparison...

Post Tax returns per Morningstar:

Image
I think it's just the composition of the indices.

VBR/VSIAX includes 10.6% real estate. SEC Yield 1.85%.
VIOV includes 5.4% real estate. SEC Yield 1.29%.

Neither dividend payout is particularly high, but VBR is higher. And the real estate in particular results in a dividend payout with a large proportion of non-qualified dividends. Looking at one of the threads with 2016 numbers, VBR was reported to have 77% QDI, while IJS was 93% QDI.

Vanguard switched to the CRSP index in April 2013, so we should have a few years of meaningful numbers.

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Re: Only 1 Vanguard factor fund for investors?

Post by GreatOdinsRaven » Thu Jan 04, 2018 1:26 pm

jhfenton wrote:
Thu Jan 04, 2018 1:11 pm

I think it's just the composition of the indices.

VBR/VSIAX includes 10.6% real estate. SEC Yield 1.85%.
VIOV includes 5.4% real estate. SEC Yield 1.29%.

Neither dividend payout is particularly high, but VBR is higher. And the real estate in particular results in a dividend payout with a large proportion of non-qualified dividends. Looking at one of the threads with 2016 numbers, VBR was reported to have 77% QDI, while IJS was 93% QDI.

Vanguard switched to the CRSP index in April 2013, so we should have a few years of meaningful numbers.
Thank you. This may have been the most personally useful thing I’ve read on the forum in quite a long time.
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Re: Only 1 Vanguard factor fund for investors?

Post by nisiprius » Thu Jan 04, 2018 1:28 pm

triceratop wrote:
Thu Jan 04, 2018 12:52 am
Taylor Larimore wrote:
Wed Jan 03, 2018 10:48 pm
...Only one of the six new factor funds will be be directly available to investors. The five other factor funds are only through advisors. Can you guess why?...
No: "designed for" != "available only to." As mentioned, these are ETFs so can typically be bought by anyone (possibly with a commission).
jhfenton wrote:
Thu Jan 04, 2018 8:51 am
...I think the Russell and S&P (non-500) index funds are mainly for advisors as well. But that doesn't stop a fair number of us from owning VIOV (Vg S&P 600 Small Cap Value), especially in taxable, where it is more tax-friendly than VBR...
I think that's a very relevant analogy, and it suggests a way of assessing Vanguard's designs or intentions. When these factor ETFs become available in mid-February, we can simply go to to the Vanguard ETF list and see the six factor ETFs are visible immediately, like the "sector and specialty ETFs,"

Image

or whether they are filtered out by default, hidden, and do not show until you click on "Filters" and ask that they be shown, like the "Other Indexes" ETFs.

Image

I will make a prediction. My prediction is that the six factor ETFs, like the Russell and S&P index ETFs, will also be hidden by default. We'll see.
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Re: Only 1 Vanguard factor fund for investors?

Post by jhfenton » Thu Jan 04, 2018 1:45 pm

GreatOdinsRaven wrote:
Thu Jan 04, 2018 1:26 pm
Thank you. This may have been the most personally useful thing I’ve read on the forum in quite a long time.
:beer I've learned a lot from previous tax cost discussions on the forum, particularly this one and the related posts.
nisiprius wrote:
Thu Jan 04, 2018 1:28 pm
I will make a prediction. My prediction is that the six factor ETFs, like the Russell and S&P index ETFs, will also be hidden by default. We'll see.
You could be right, but I predict that they'll show these and perhaps add an Active/Passive selection in the filter, like they currently have for mutual funds.

I think the difference between these and the Russell/S&P funds is that they don't have true equivalents of these funds, whereas they actively steer folks toward their equivalent CRSP index funds where they have lower costs (and want to drive them lower).

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