Vanguard Bond ETFs Attitude Toward Capital Gains Distributions

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learninginvestor
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Vanguard Bond ETFs Attitude Toward Capital Gains Distributions

Post by learninginvestor »

I use several Vanguard Bond ETFs in a Trust Account where all income is paid to the income beneficiaries but all capital gains are retained by the Trust. As as result, the income taxes for the capital gains distributions are paid by the Trust. This Trust Account is not held at Vanguard so we do not have access to the Admiral Share Class for these funds.

The (name change) Vanguard Intermediate-Term Treasury Index ETF (Ticker: VGIT) has paid either Short-Term or Long-Term Capital Gains distributions in four of the last five accounting years ending August 31. This despite the fact that assets under management have increased each year for the Admiral, the ETF, and the Institutional share classes of this fund. I believe that this multi-year capital gains distributions scenario also applies to the Vanguard Total Bond Market (BND) and Intermediate-Term Bond (BIV) ETFs as well.

In comparison, neither the Intermediate-Term Treasury ETFs from iShares (IEI) or Schwab (SCHR) have paid a capital gains distribution in over five years. SCHRs performance is within a few basis points of VGITs for the last one, three, and five year periods.

I am having a hard time figuring out why these Vanguard Bond ETFs have managed their portfolios to realize capital gains while some of their competitors don't. Vanguard has a reputation as an efficient asset manager-- so I don't understand their philosophy on ETF capital gains when the can exchange low cost basis lots with their authorized participants when ETF shares are periodically redeemed.
Thesaints
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Re: Vanguard Bond ETFs Attitude Toward Capital Gains Distributions

Post by Thesaints »

What about their return ?
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triceratop
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Re: Vanguard Bond ETFs Attitude Toward Capital Gains Distributions

Post by triceratop »

"To play the stock market is to play musical chairs under the chord progression of a bid-ask spread."
lack_ey
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Re: Vanguard Bond ETFs Attitude Toward Capital Gains Distributions

Post by lack_ey »

I think there was some speculation that it might have to do with the dual share structure, given that the Vanguard ETF shares the same underlying asset pool as a traditional mutual fund (e.g. VGIT and VSIGX). The mutual fund flows could cause sales that other pure ETFs could avoid (there can be net redemptions in some periods and months in a year in which there are net creations). But I haven't closely followed the underlying holdings to see what they're doing, how exactly they're following the weighting of the exact index constituents.

Maybe Vanguard figures that index tracking and performance are more important than minimizing capital gains distributions in taxable bond index funds, that people would use muni bonds instead if caring significantly about the taxation of distributions.

It seems like I or somebody should know the answer but I don't personally. It's a good question.
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triceratop
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Re: Vanguard Bond ETFs Attitude Toward Capital Gains Distributions

Post by triceratop »

By the way, VGIT paid only 0.13% of NAV in capital gains distributions in 2016. Most of that is long-term capital gains.

To the extent the fund managers were able to convert what would otherwise be dividend income to capital gains, it seems that this was a move which would improve tax efficiency. This is how it works: if rates rise (and the bond fund sells bonds) you will pay (generally long-term, as occurred with VGIT) capital gains now and as a result receive smaller dividends in the future; taxation of dividends are what hurt returns. Sounds great to me, as an owner of VGIT.

That is assuming that that is what they did, of course. I do not know.
"To play the stock market is to play musical chairs under the chord progression of a bid-ask spread."
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