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All Contents © 2017The Kiplinger Washington Editors
By Nellie S. Huang, Senior Associate Editor
| Originally published January 21, 2016
Vanguard is best known for ultralow fees and its many index funds. But the Malvern, Pa., firm sponsors 70 actively managed funds, too. Some are solid, including Vanguard Dividend Growth (symbol VDIGX), a member of the Kiplinger 25. But some of Vanguard’s actively managed funds are, to put it generously, mediocre.
Here are six we think you should avoid.
(Returns are through January 20 and are annualized.)
Assets: $1.1 billion
Expense ratio: 0.50%
1 year: -20.2% (S&P 500: -6.1%)
3 years: 3.5% (S&P 500: 10.0%)
5 years: 3.5% (S&P 500: 10.1%)
10 years: 4.1% (S&P 500: 4.2%)
This fund is hard to peg against a benchmark because it invests in companies of all sizes. Until 2014, fund rater Morningstar slotted Capital Value with funds that invest in large-company stocks with a blend of growth and value characteristics. Then in 2015, Morningstar began to compare Capital Value with midsize-company blend funds. To keep things simple and consistent, we compared the fund’s performance with Standard & Poor’s 500-stock index.
By that measuring stick, Capital Value’s performance has been as inconsistent as California weather. After delivering superb results in 2010, when Capital Value beat the S&P 500 by more than five percentage points, it lagged the index by a whopping 16 percentage points in 2011. It recovered to beat the bogey in 2012 and 2013, only to drop behind in 2014 and 2015. All told, Capital Value has been 50% more volatile than the S&P 500 over the past five years, and it lagged the index by an average of 6.6 percentage points annually. (We focus on the past five years because Peter Higgins became manager in the middle of 2008; David Palmer was named comanager in late 2009.)
Morningstar analyst Kevin McDevitt says only the most aggressive investors should consider this fund. Indeed, we wouldn’t want to ride this roller coaster.
SEE ALSO: Investing Lessons From Vanguard's Bogleheads
Assets: $1.4 billion
Expense ratio: 0.41%
1 year: -7.9%
3 years: 9.1%
5 years: 9.1%
10 years: 5.6%
When a fund holds other funds, it’s the innards that matter. In the case of Diversified Equity, which holds eight U.S. stock funds, two are okay (Mid Cap Growth and Windsor), some are formerly poor performers that are on the mend (Growth & Income and U.S. Growth) and some are ho-hum to downright disappointing (Explorer, Windsor II, Capital Value and Morgan Growth).
In part because of this mixed bag, Diversified Equity has posted average returns. Its five-year return is right in the middle of the large-company growth fund category. And the fund trails the S&P 500 by an average of 0.9 percentage point per year.
To be fair, Diversified Equity holds fewer large-company stocks and more small-cap and mid-cap stocks than its peers. At last report, the fund had 65% of its assets in large-company stocks; the average large-company fund has 80%. That may explain the fund’s lackluster showings in certain years, such as 2011, 2014 and 2015, when big-capitalization stocks outperformed their small-cap brethren.
Assets: $241.5 million
Expense ratio: 0.93%
1 year: -26.5%
3 years: -12.3%
5 years: --
10 years: --
Usually, the higher the risk, the richer the reward. Not this time. Over the past three years, Emerging Markets Select Stock has been more volatile than the average diversified emerging-markets stock fund, and it has underperformed the average fund in its category by an average of 2.3 percentage points per year.
Emerging Markets Select Stock launched in the middle of 2011 and had a fine 2012, up 22.6%, compared with 18.2% for the average emerging-markets stock fund. But developing-markets stocks have been slumping since 2013, and Emerging Markets Select Stock has participated fully in the downturn, and then some. Over the past two years, the average diversified emerging-markets fund produced a cumulative loss of 223.9%, while Emerging Markets Select Stock has sunk 29.4%.
Eight managers from four firms run the fund, investing in emerging-markets companies of all sizes. Recently, the fund’s top three holdings were Taiwan Semiconductor, China Construction Bank Corp. and Naspers Ltd, a South African Internet company. With an annual expense ratio of 0.93%, Emerging Markets Select Stock is Vanguard’s most costly fund.
SEE ALSO: Best Vanguard Funds for Your 401(k) Retirement Savings
Assets: $11.0 billion
Expense ratio: 0.48%
1 year: -12.7%
3 years: 6.4%
5 years: 7.3%
10 years: 5.1%
Strike one: Explorer is humongous. With $11 billion in assets, it is the second-largest actively managed small-company stock fund in the country (behind only T. Rowe Price New Horizons). A large asset base can hinder a fund, especially one that invests in small companies, because the fund has to buy and sell in such large quantities that share prices get pushed in the wrong direction—up as the fund buys, down as it sells.
Strike two: Explorer holds a whopping 713 stocks, in part because has 14 managers, who hail from seven different investment firms. With that many holdings in the portfolio, you’d need a tsunami of outperformers to make an impact on the fund’s return. In 2015, for instance, six of the fund’s holdings, including Anacor Pharmaceuticals (ANAC), up 250%, and Netflix (NFLX), up 134%, posted triple-digit gains. But because those stocks represented just 0.14% and 0.13% of assets, respectively, they didn’t have much impact on performance (Explorer lost 4.3% in 2015).
Strike three: Explorer’s long-term results are pedestrian. Its 10-year return ranks behind 60% of its peers. It also lags the fund’s chosen benchmark, the Russell 2500 Growth index, by an average of 1.6 percentage points per year.
Assets: $11.7 billion
Expense ratio: 0.40%
1 year: -2.4%
3 years: 11.6%
5 years: 9.7%
10 years: 6.4%
The truth about this large-company fund is that you could do worse. But you could also do better. The biggest drawback: As in some of the other funds on this list, too many cooks are in the kitchen. In this case, the fund’s eight managers hail from four different money-management firms, each with its own approach, which seems to water down results.
For example, Wellington Management runs 48% of Morgan’s assets, looking for large, undervalued companies. Jennison Associates, which commands 22% of the fund’s assets, invests in fast-growing large companies. Vanguard’s quantitative team, with 15% of assets to manage, uses computer models that factor in growth and value characteristics to find high-quality large-company stocks. Finally, Frontier Capital Management with 15% of assets, sifts through small and midsize companies in search of underappreciated growth stocks.
In the end, you get performance that has lagged the fund’s benchmark, the Russell 3000 Growth index, over the long haul. That said, recent results have gotten better. Over the past three years, the fund returned 11.6% annualized, compared with 11.5% for the benchmark.
SEE ALSO: 9 Great Vanguard Funds for Retirement Savers
Assets: $45 billion
Expense ratio: 0.34%
1 year: -10.5%
3 years: 6.9%
5 years: 8.2%
10 years: 4.9%
This fund has 11 managers from five firms at the helm. But like all the king’s men in the Humpty Dumpty nursery rhyme, this veritable troop of managers hasn’t been able to successfully reassemble this once-solid fund.
A revolving door at the top may be one explanation for subpar results in recent years. Vanguard has removed three subadvisers and added two others over the past decade. And at the end of 2015, veteran stock picker James Barrow, of Barrow, Hanley, Mewhinney & Strauss—the longest-tenured subadviser at the fund and the one with the biggest chunk of its assets (about 60%)—stepped down after 30 years. Two other Barrow hands, Jeff Fahrenbruch and David Ganucheau, who were appointed comanagers in 2013, remain.
The high manager turnover makes it difficult to assess the fund appropriately—one subadviser came aboard in 2003, another in 2007, and yet another in 2010 (Barrow, Hanley has been in place since 1985). But one thing we know for sure is that over the past decade Windsor II has been more volatile than the S&P 500 and less rewarding.
SEE ALSO: These 5 Vanguard Index Funds Are All You Need
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