Vanguard's approach to active and passive management
13 August 2016 | Portfolio construction
Many investors consider both active and passive fund management when building their portfolios. In this video recorded 22 June 2016, Vanguard experts discuss Vanguard's fund management philosophy and methodology for both strategies.
Amy Chain (moderator): Hi, I'm Amy Chain at Vanguard. Welcome to today's programme, where we'll discuss the considerations for combining active and passive investments, a topic that's top-of-mind for many investors across the globe.
Joining us to address common client questions on the topic, and to discuss a framework investors can follow, are members of Vanguard's global Investment Strategy Group and Portfolio Review Department. Thanks, all, for being here today.
We've been hearing a lot about new ways of indexing, like smart beta, fundamental indexing and active quantitative indexing. Many clients consider both active and passive when building their portfolios.
How does Vanguard do both active and passive management well?
Walter Lenhard (Vanguard Portfolio Review Department): On the passive side, our philosophy is really to offer the best possible products at the lowest possible prices. So we're always trying to lower the expense ratio of our products. But we also go out there and we find the best benchmarks for every single asset class. And people normally think about indexing the advantages of indexing being low cost, diversification and risk control; but there's really a second tier of reasons why indexing works so well and that's low turnover [and] low transaction costs.
Jeff Johnson (Vanguard Investment Strategy Group): On the active side, it really comes down to talent, cost and patience. It's so important, critically important when you're employing an active strategy to ensure that you have the most talented manager with the most disciplined investment process that they've most consistently applied over time.
And, unfortunately, this is becoming more and more competitive.
Investors can improve their odds by ensuring that they're paying the smallest amount for that access to active management over time. And they also have to recognise that they're going to need to be patient because even those managers who have the skill and who might have been able to outperform over time are also going to encounter sometimes extended periods where they underperform.
Brian Wimmer (Vanguard Investment Strategy Group): The one thing that both, Walter, you and Jeff mentioned that I think linked the two together then is ultimately cost. So we're able to get successful strategies at a low cost. I think a lot of times we think about intuitively in other areas of life where if you pay more, you're going to get higher quality or more performance. But the counterintuitive thing in the investment industry is really if you're able to decrease your cost. Whether it's active or passive, we're able to improve the odds of long-term investment success.
Amy Chain: Jeff, what are some key considerations for investors when selecting an active manager?
Jeff Johnson: Sure. So as we've discussed, for most investors most of the time, we really believe that index portfolios can be a great option for them. But for those investors who do have a preference for active management, our conviction in active management is really conditional upon a variety of characteristics being in place. The firm has to be stable and sound with a diverse client base and a stable asset base over time, the investment team needs to be deep and experienced and stable with tremendous talent.
We look closely at that investment process and look to ensure that it's been consistently applied both in periods where the market has favoured any investor's style of investing but also periods where maybe their style of investing encounter challenges. We believe that if you have the right firm, you have the right investment team, and they've employed a consistent process over time, they increase their odds of outperforming.
Brian Wimmer: One of the things that I think's really interesting about our answer and that we talk about an active management Vanguard is that it's not about past performance exclusively. So, Jeff, you talked a lot about the process and about the people; and those are critical considerations. And while we, of course, would like to see a track record of some type of success, it's not about that purely because, as we know, active management can be inconsistent, there can be periods of underperformance. So it's really important to go beyond just what has the last three or five-year performance been and understand more about the teams and about the specifics of the active manager that you're actually purchasing.
Jeff Johnson: And the process can be littered with paradox. Sometimes the best managers who might be most poised to outperform going forward, can be those that have struggled the most relative to a benchmark over the last three or four or five years.
Amy Chain: On that note, I'll say thank you all for joining us today, and I'll say thank you for watching. More about Vanguard's perspective on active/passive combinations in a portfolio is available on our website.
The information in this video does not constitute investment, legal or tax advice. You should not, therefore, rely on the content of this video when making investment decisions.
Past performance is not an indication of future performance. This presentation was prepared in good faith and we accept no liability for errors or omissions.
Vanguard Investments Australia Limited (ABN 72 072 881 086 / AFS Licence 227263) is the product issuer. We have not taken your circumstances into account when preparing this presentation so it may not be applicable to your circumstances. You should consider your circumstances, and our Product Disclosure Statements (PDS), before making any investment decision. You can access our PDS at www.vanguard.com.au or by calling 1300 555 102 (institutional investors) or 1300 655 205 financial advisers).