Bond managers see momentum in Vanguard Core Bond Fund
March 28, 2017
Vanguard Core Bond Fund just reached a milestone—the one-year anniversary of its launch last March. We spoke with the head of Vanguard Fixed Income Group, Greg Davis, CFA, and the portfolio managers of the Core Bond Fund, Greg Nassour, CFA; Gemma Wright-Casparius; and Brian Quigley, to learn more about first-year highlights of the fund.
What's driven the strong interest in the Core Bond Fund?
Greg Davis: The Core Bond Fund fills a unique space within our product offer. It's our most broadly diversified active fixed income fund and, as a result, seeks to outperform its benchmark. This contrasts with our bond index funds, which seek to match the performance of the benchmark. The Core Bond Fund has many of the characteristics that you'd expect from Vanguard funds, including a broadly diversified strategy that focuses on high-quality securities and strong risk controls. The fund's overall strategy has generated a lot of interest from investors seeking to optimize their return potential without compromising the defensive role that bonds play in a portfolio: counteracting stock market risk.
Like its sibling index fund, Vanguard Total Bond Market Index Fund, this active bond fund invests in bonds across the investment-grade market, including Treasury, mortgage-backed, corporate, and asset-backed securities of varying yields and maturities.
What advantage does the Core Bond Fund have over comparable funds on the market?
Gemma Wright-Casparius: The key advantage is that you get a high-quality bond fund run by one of the largest and most reputable bond managers at a low cost. The broad asset class exposure of the Core Bond Fund allows us to leverage the deep expertise of our global investment team. Guided by our market outlook, our specialized sector teams work collaboratively to identify attractive opportunities across the investment-grade landscape.
In addition to a deeply experienced and well-coordinated team, low expenses are an integral part of what we believe helps sustain long-term outperformance. The Core Bond Fund offers two low-cost share classes—Investor Shares, which charge 0.25%, and Admiral™ Shares, which charge 0.15%—well below the core bond fund category average expense ratio of 0.81%.1 Because Vanguard charges about one-third of what comparable strategies do, investors can pocket the difference.
Low costs can give Vanguard Core Bond Fund investors a competitive edge
The expense ratios for Vanguard Core Bond Fund are 0.25% for Investor Shares and 0.15% for Admiral Shares compared with the industry average of 0.81% for the same category. The average expense ratio for Vanguard's active taxable fixed income products is 0.16% compared with the industry average of 0.93% for the same category.
Sources: Vanguard and Lipper, a Thomson Reuters Company, as of February 28, 2017.
How does the Core Bond Fund's low cost contribute to long-term performance?
Greg Nassour: The Core Bond Fund aims to outperform the Bloomberg Barclays U.S. Aggregate Float Adjusted Index by 0.60% gross of fees over the long term. In other words, subtracting out the 0.15% cost of the Admiral Share class of the fund, we aim to deliver 0.45%, annually, above the fund's benchmark return.
That kind of outperformance is significant. Based on the historical performance of the fund's peer group, the outperformance target of the Core Bond Fund would position it in the 87th percentile over a ten-year period within the core bond fund category.2 So our low cost can give us a significant competitive edge. More important, this level of targeted outperformance over the long term would create additional wealth for our clients.
Vanguard's active taxable bond funds have consistently produced higher returns than industry averages
Sources: Vanguard and Lipper, a Thomson Reuters Company, as of December 31, 2016.
For the 1-year period ended December 31, 2016, 73% of our active taxable bond funds (19 of 26) outperformed their peer-group averages. For the 3-year period ended December 31, 2016, 91% of our active taxable bond funds (20 of 22) outperformed their peer-group averages. For the 5-year period ended December 31, 2016, 95% of our active taxable bond funds (21 of 22) outperformed their peer-group averages. For the 10-year period ended December 31, 2016, 91% of our active taxable bond funds (20 of 22) outperformed their peer-group averages. Results will vary for other time periods. Only funds with a minimum 1-, 3-, 5-, or 10-year history, respectively, were included in the comparison. (Source: Lipper, a Thomson Reuters Company.) Note that the competitive performance data shown represent past performance, which is not a guarantee of future results, and that all investments are subject to risks. For the most recent performance, visit our website at vanguard.com/performance.
Gemma Wright-Casparius: The lower expense ratio also enables us to manage the fund more conservatively. We don't need to take as much risk to achieve competitive returns compared with other actively managed total return funds.
For example, some bond funds use active investment approaches that may introduce significant exposure to high-yield bonds, reducing the diversification benefits many investors want. Our approach limits exposure to these high-yield bonds to 5% of holdings, which helps maintain the integrity of a core bond fund's role in your portfolio.
We also limit interest rate risk by imposing tight duration3 constraints—generally, 0.5 years above or below the fund's benchmark, the Bloomberg Barclays U.S. Aggregate Float Adjusted Index.
Given the fund's broad mandate, can you describe the team and processes supporting the fund's management?
Brian Quigley: Our senior investment team—which includes the global heads of interest rates, credit, tax-exempt bonds, and risk management—works closely with Vanguard's economic strategy team to gain insight into investment opportunities. Based on those outlooks, our sector specialist teams of portfolio managers, traders, credit analysts, and other investment professionals work together to seek out the most attractive investments within their areas of expertise.
Our team-based approach helps us make the best decisions in our portfolios for our investors and leverages the resources and capabilities of our entire organization, including experts located in the United States, United Kingdom, Hong Kong, and Australia. This global presence lets us share local insights from a bottom-up perspective.
Greg Nassour: We're humbled by the assets entrusted to us by our clients. Growth in the Core Bond Fund and other Vanguard fixed income funds has pushed assets under management past $1 trillion for Vanguard Fixed Income Group.4 More than half of that amount is invested in active strategies that seek to outperform a stated benchmark. With regard to fund performance, our active taxable bond funds have outperformed their peer-group average returns by 73%, 91%, 95%, and 91% over the past 1, 3, 5, and 10 years, respectively, as of year-end 2016.
For investors seeking a high-quality diversified bond fund that aims to optimize return potential, the Core Bond Fund can serve a fundamental role in a portfolio. It offers the expertise of a world-class investment team with a strong emphasis on risk management, at a low cost.
1Sources: Vanguard and Lipper, a Thomson Reuters Company, as of February 28, 2017.
2Sources: Lipper data as of February 28, 2017, and Vanguard analysis.
3Duration is a measure of the sensitivity of bond—and bond mutual fund—prices to interest rate movements.
4As of June 30, 2016.
- All investing is subject to risk, including the possible loss of the money you invest. Diversification does not ensure a profit or protect against a loss.
- Bond funds are subject to interest rate risk, which is the chance bond prices overall will decline because of rising interest rates, and credit risk, which is the chance a bond issuer will fail to pay interest and principal in a timely manner or that negative perceptions of the issuer's ability to make such payments will cause the price of that bond to decline.
- CFA® is a registered trademark owned by CFA Institute.